Is the Federal Reserve Printing Money?

Sheets of one-dollar bills running through a machine

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The Federal Reserve is America's central bank. Its job is to manage the U.S. money supply. For that reason, many people say the Fed prints money. That doesn't mean the Fed has a printing press that cranks out dollars. Only the U.S. Department of Treasury does that. 

Key Takeaways

  • People say the Fed is printing money when it adds credit to accounts of federal member banks or lowers the fed funds rate.
  • The Fed does both of these actions to increase the money supply.
  • The Bureau of Engraving and Printing, under the U.S. Department of Treasury, does the actual printing of cash for circulation.

How the Fed "Prints Money"

To understand how the Fed “prints money,” remember that most of the money in use today is not cash. It's credit that's added to banks' deposits. It’s similar to the kind of credit you receive when your employer deposits your paycheck directly into your bank account.

When people say the Federal Reserve "prints money," they mean it's adding credit to its member banks' deposits. 

The Federal Open Market Committee (FOMC) is the Fed’s operational arm, guiding monetary policy. When the fed expands credit, it's engaging in expansive monetary policy. It increases the money supply available to borrow, spend, or invest. Expanding credit helps end recessions.

The Fed mainly uses two of its many tools to implement monetary policy.

Federal Funds Rate

When the Fed wants to "print money," it lowers the target for the federal funds rate. Fed funds are what banks are required to hold in reserve each night. If needed, a bank will borrow fed funds from another bank to meet the requirement. The interest rate it pays is called the fed funds rate.

When the FOMC lowers the target for the fed funds rate, it allows banks to pay less for borrowed fed funds. Since they are paying less in interest, they have more money to lend.

The Fed typically requires that banks hold 10% percent of their deposits in reserve. This reserve requirement was lowered to zero in March 2020 to fight the recession caused by the COVID-19 pandemic.

A bank would like to lend every dollar it doesn’t have to hold in reserve. So, as soon as the FOMC lowers the fed funds rate target, banks comply. They then reduce all other interest rates.

That makes capital more affordable, so businesses and investors are more likely to borrow. If the return on investment is expected to be higher than the interest rate, the investment will look like a good idea. In this way, high liquidity spurs economic growth. That’s just like adding money to the money supply.

Open Market Operations

The Fed’s other tool is open market operations. The Fed buys U.S. Treasurys and other securities from its member banks and replaces them with credit. All central banks have this unique ability to create credit out of thin air. That’s just like printing money.

Quantitative easing (QE) is a massive expansion of open market operations. The most recent use of QE was in response to the COVID-19 pandemic. On March 15, 2020, the Federal Reserve announced it would purchase $500 billion in U.S. Treasurys and $200 billion in mortgage-backed securities over the next several months. On March 23, the FOMC expanded QE purchases to an unlimited amount. By May 18, its balance sheet had grown to $7 trillion.

The Fed initially launched QE between December 2008 and October 2014 in response to the 2008 financial crisis. By January 2014, it added $4 trillion to the money supply—it had the same impact on the economy as printing 40 billion $100 bills and mailing them to banks to lend.

The Fed Can "Unprint Money," Too

If overdone, expansive monetary policy can create inflation. As cheap capital chases fewer and fewer solid ventures, the prices of those assets increase. That's true whether the investments are in real estate, gold, barrels of oil, or high-tech companies.

The most commonly-used measure of inflation, the Consumer Price Index, doesn't record all of these price increases. It captures oil prices, but not gold or stock prices. It measures housing, but uses a statistic that measures rental rates, not houses for sale. That's why the Fed's actions can easily create asset bubbles as well as inflation.

People worry about the Fed printing money because they don't understand that the Fed can "unprint" it just as quickly.

The Fed uses contractionary monetary policy to dry up liquidity. It has the same effect as taking money out of circulation.

To reduce the amount of capital in the money supply, the Fed raises the fed funds rate. When that happens, banks have less money to lend. They've got to pay each other more to keep fed funds in the overnight account to fulfill the Fed's reserve requirement. 

Raising the fed funds rate causes all interest rates to increase.

That makes it more expensive to borrow for business expansion, automobiles, and homes. It slows economic growth, drying up the demand that drives inflation.

The Fed can also reverse the effects of quantitative easing. It does this by selling Treasurys and mortgage-backed securities to its banks. People worry that the banks won't buy these securities, but they don't have a choice. The Fed removes dollars from the banks' balance sheets and replaces them with these securities.

What happens to the dollars? They vanish. In other words, they go back into thin air where the Fed got them in the first place.

How the Treasury Prints Money

The Bureau of Engraving and Printing (BEP) designs and manufactures U.S. currency and securities. Its goal is to prevent counterfeiting. The design also conveys dignity, the power of the U.S. economy, and familiar markings that distinguish it as American currency.

The BEP does this with distinct designs, paper, and ink. In 2003, it added subtle background colors to improve security.

Unlike most paper, U.S. currencies are made of 75% cotton and 25% linen.

For $5 notes and above, security threads and watermarks are woven into the paper. The front of the bill uses a color-shifting ink, and the $100 bill has a 3D security ribbon.

After a final inspection, the BEP sends completed currency to the nation's central bank, the Federal Reserve.

The Fed Decides How Much Money Is Created

The Fed decides how much money gets made. That's true for both credit and paper currency. Paper currency is officially called Federal Reserve notes. As of February 2021, there was $2.05 trillion worth of these notes in circulation. In 2019, the Fed spent $700 million to manage the currency. It pays for printing, transportation, and destruction of the mutilated currency.

The Federal Reserve Board estimates how much demand there is for paper currency. Most of it goes to replace mutilated or outdated bills.

Another Way the Fed Creates Money

The Fed's ability to create and destroy money gives it another power: It's able to monetize the U.S. debt. When the U.S. government auctions Treasurys, it's selling U.S. debt to Treasury buyers. The Fed is one of these buyers. It keeps the Treasurys on its balance sheet. Technically, the Treasury must pay the Fed back one day. Until then, the Fed has given the federal government more money to spend.

How does the Fed do this? It removes those Treasurys from circulation. Decreasing the supply of Treasurys makes the remaining bonds more valuable. These higher-value Treasurys don't have to pay as much in interest to get buyers. The lower yield drives down interest rates on the U.S. debt. Lower interest rates mean the government doesn't have to spend as much to pay off its loans. That's money it can use for other programs.