Bonds and Tax Accounts Are Rituals 

Most likely, when you discuss federal spending with the general public, people will tell you that the federal government must tax or borrow before it can spend. If you choose to see federal spending from the premise that the federal government is dependent on the private sector, then you unwittingly empower certain entities within the private sector who are both undeserving of and unauthorised to have that power. Ironically, it is not big business, or people such as the Koch’s or the Walton family that are directly responsible for the public’s misconception of who is in charge. Through its behaviour, it is the federal government itself that is most directly responsible for disseminating private sector supremacy nonsense.

When the federal government wishes to spend, it simply credits a private bank account with its IOU. In other words, it enters a bank account, types a number and dollars exist out of thin air. All federal spending is done this way. The federal government does not require tax collections nor borrowing to fund its spending, because it is the only issuer of US dollars. When it wishes to tax, it simply removes dollars from a reserve account and the dollars are gone forever. Bond markets understand this. The 1% understand this. But it is not to their benefit that the general public understands this. For these entities, it is better that you believe the private sector funds the federal government. That belief provides the illusion that you have “skin in the game”, as well as business and the 1%, so to speak. In order to satisfy the narcissistic demands of business and the 1%, it is necessary that the federal government provide the illusion that the federal government is somehow financially dependent on the private sector, which the federal government is made to do through the influence of politicians, by performing a series of rituals before it spends. Bonds and tax accounts serve to obscure the reality of what’s going on, keeping you in the dark. To lift the veil that is covering the reality, I am first going to explain bank accounts and reserve accounts in a way that you, the layperson, can easily understand, then discuss taxation and bond issuance. 

There is a hierarchy of accounts in the commercial banking system: Reserve accounts and private bank accounts reflecting what is held in reserve accounts. Commercial banks maintain what are called reserve accounts at the central bank. In the US, the central bank is the Federal Reserve. (In Australia, the RBA) In these reserve accounts sit actual US dollars that the US government has issued. These dollars always remain at the Federal Reserve, shifting back and forth between other reserve accounts to ensure payments clear when we all buy things or pay bills. These dollars are never lent out into the economy through bank loans - ever. Within each commercial bank are individual bank accounts held by people, businesses and other organizations. These individual bank accounts are a mere record of dollars held on deposit; they do not contain actual US dollars. The actual US dollars are in the reserve account at the Fed. But don’t worry, you haven’t lost your deposit. Let’s examine what’s going on using your employer making a direct deposit into your bank account.

When your employer deposits your paycheck into your individual bank account, your bank’s reserve account rises by the amount of the deposit. So, if your employer deposits $1,500, your bank’s reserve account increases by $1,500. The reason for this is very, very simple. Your employer has an account at Bank A and you have an account at Bank B. Both Bank A and B have a reserve account at the Federal Reserve. When your employer deposits your $1,500 paycheck into your account, $1,500 of Bank A’s reserves shift over to your bank’s reserve account. When that shift occurs, the numbers in your bank account rise, simply reflecting the $1,500 reserve transaction between the two banks. Your account shows that you have $1,500 more available to you. Thus, your bank account is just a record of transactions between banks that take place at the Federal Reserve. When you buy something for $50, then that $50 will shift from your bank’s reserve account to another bank’s and the numbers in your bank account will drop by 50, showing that you now have $50 less.

One way to look at this is to think of your employer’s deposit into your account as a ticket which both initiates the transaction between the two banks’ reserve accounts and tells your bank what individual account to credit upon completion of the reserve shift. Your account number serves as the identifier so that it knows what account to credit or debit for the reserve shift. This is why your bank assigns each account you hold an account number and it is also how your bank keeps track of how many dollars each customer has. Your bank, outside of cash in its vault, does not hold any US dollars. The dollars deposited in your account simply are not there at your bank. They are all sitting in your bank’s reserve account the Federal Reserve. The shifting of dollars between reserve accounts does not add US dollars to or subtract US dollars from the banking system. For that, you need government spending and taxation, which we will discuss in a moment. So, what of cash then?

Cash is nothing more than a withdrawal slip. A dollar begins its life as just a number in a reserve account when the US government spends it into existence. At some point in time, your bank will need cash to satisfy its customers’ demand for cash. Your bank contacts the Federal Reserve and asks for, let us say, $5 million in cash. The Federal Reserve then ships $5 million in cash to your bank, but then deletes $5 million from your bank’s reserve account, because it is shipping $5 million worth of reserves in the form of cash to your bank. $5 million of your bank’s reserves are now held by your bank in its vault as cash. A paper dollar is nothing more than the physical manifestation of that number which was once held in a reserve account at the Federal Reserve. That is why cash has a number on it: 1, 5, 10, 20, 50, 100. See that now? It is just a piece of paper with a number on it, say 10, that lets everyone know you have $10 and they will believe you. Later on, should your bank decide that it has more cash on hand than its customers demand, say $2 million, then your bank will ship the $2 million in cash back to the Federal Reserve and when it receives the cash, the Federal Reserve will go into your bank’s reserve account and increase it by $2 million. So, in summary, if a bank needs $5 million in cash, it will see its reserve account at the Federal Reserve reduced by $5 million and vice versa. The bank doesn’t get to keep $5 million in reserves and get a free extra $5 million in cash from the Fed. The reserves must be converted into cash or else, they must remain at the Federal Reserve. 

Now, should you head to your bank and withdraw $10 in cash, your bank dips into its vault, hands you a $10 bill and the numbers in your bank account drop by 10, showing that you now have $10 less of a claim on your bank’s reserves. You walk out of your bank simply carrying a withdrawal slip, or more precisely, you are carrying around $10 of your bank’s reserves that are held as cash. When you spend the cash, that $10 ends up in another bank’s vault. In short, it’s a physical reserve shift rather than electronic. Instead of numbers shifting between reserve accounts held at the Federal Reserve, cash allows people to physically make the transfer between banks. Should the person receiving your $10 decide not to deposit it and put it under a mattress, that doesn’t matter one bit. The $10 is merely delayed in transferring between two banks. Understanding that individual bank accounts are mere records of reserve account transactions, let us now examine the veil over reality that the federal government places on federal spending: Tax accounts and bonds.

The first and most pernicious of these veils surrounds taxation. “Federal taxes fund federal spending” is the mantra. That’s a lie. One way that the illusion is made to seem real is through the assistance of tax accounts. The US Treasury maintains what are called TT&L accounts in various commercial banks and into which, tax dollars flow. These accounts are altogether unnecessary, forcing tax dollars to run an obstacle course prior to being destroyed and that obstacle course only serves to reinforce the belief that government is actually spending tax dollars. In short, it is a ritual that the federal government chooses to perform prior to destroying what it has collected in tax. Since the public assumes that actual US dollars are held in bank accounts, which we now understand is totally false, the public is assured that if the federal government is depositing tax dollars into a bank account, it must necessarily be doing so for a reason: it is going to spend those dollars. Wrong. 

What is not mentioned is that the Treasury maintains operating accounts at the Federal Reserve which sit outside of the private banking system entirely. As we now know, actual US dollars sit in reserve accounts held at the Fed. When the Treasury withdraws dollars held in TT&L accounts, the actual dollars are debited from those commercial banks’ reserve accounts and shifted out of the private banking system entirely, leaving the private sector with less US dollars to spend. When the dollars held in reserve accounts drop, the Treasury’s operating account then rises, recording the number of US dollars now destroyed by taxation. The US dollars destroyed are now accounted for. Nothing more. Again, keep in mind that the shifting of dollars between reserve accounts does not add or subtract US dollars from the banking system. However, when Treasury debits these reserve accounts, the dollars are subtracted and when Treasury spends, dollars are added. So, then, if the federal government is spending these tax dollars held in TT&L accounts, why remove the reserves entirely from the banking system to its operating account first before spending? Why not just do like all other entities do and spend from their bank accounts held in the private sector? 

Because, tax dollars cannot be and simply are not spent by the federal government. If the Treasury did not remove these tax dollars from the banking system, major problems would arise. We will see exactly why this is. First, let’s look at bonds, tie the nonsense together and lift the veil so we can see precisely what is really going on.

Bonds are another ritual providing the illusion that borrowing to fund spending is required for the federal government. In reality, bonds are required by Congress at the behest of corporations and bond markets and not out of any real financial necessity. Bonds serve as a veil to mask how the federal government really spends. 

Treasury is forced to issue bonds by placing them up for auction. Private entities then buy these bonds with US dollars and the amount of dollars used to buy bonds are then recorded in securities accounts, which are savings accounts held at the Federal Reserve. If $5 million in bonds were sold, $5 million is then recorded in securities accounts held at the Fed. If we now recall how reserve accounts work, this means that $5 million once held in reserve accounts shifted over to savings accounts and so, there is now $5 million less for the private sector to spend. Treasury then spends by going into various individual bank accounts, typing numbers and creating US dollars out of thin air. When it does this, reserves held by the various banks at the Fed then rise again, thus replacing the US dollars which were removed from reserves through bond sales. At this point, you should now be thinking, “What a totally absurd waste of time. Why not just spend?”

Exactly.

Instead of doing its job and just spending dollars into the non-government sector, the federal government first “prepares” to spend. Like someone with Obsessive-Compulsive Disorder, it must perform a series of rituals. After performing this complex, unnecessary series of rituals, only then can it do what it could have done anyway without the rituals and feel safe that no misfortune will befall it. Now then, back to the tax question.

So, here’s the Treasury removing tax dollars from reserve accounts, effectively reducing the amount of US dollars available for the private sector to spend. We have discussed that were the federal government actually spending these tax dollars, it wouldn’t bother to remove dollars from tax accounts first, it would just spend them. Why then remove the dollars?

People fail to understand that both the Treasury and the Federal Reserve work together. They are the Consolidated Federal Government. The Federal Reserve, in addition to being the central bank, must also conduct monetary policy, which is the setting of a target interest rate and then defending that target. Sometimes, a bank will be short of its required reserves. Instead of going to the Fed and getting them, it seeks to borrow reserves from other banks who are willing to lend them their excess reserves. Competition for reserves between banks drives down the overnight rate, which in turn affects the Fed’s target rate. If the Fed doesn’t wish to lose control of monetary policy, it must use treasury bonds to drain off the excess reserves. The Fed goes into a reserve account and destroys the liquid US dollars, replacing them with a US Treasury bond, thus effectively draining off the excess liquidity, bringing things back in line with its target rate. Knowing this fact, we will now lift the veil.

When Treasury taxes, it removes dollars from reserve accounts, thus the dollars held in reserve accounts drop. When Treasury spends, it adds dollars to reserve accounts and so, dollars held in reserve accounts rise. Were Treasury not to remove tax dollars from the banking system and instead, spent the tax dollars plus continued to deficit spend, then dollars held in reserves would rise system-wide. The competition for excess reserves between banks would then drive the overnight rate down, forcing the Federal Reserve to drain off the excess to maintain control over its target rate. If such a situation persisted, eventually the Fed would have to intervene continuously until it ran out of bonds, thus necessitating Treasury to issue more and more bonds so the Fed could drain off excess reserves. A way to avoid such a ridiculous scenario, is if the federal government destroys tax dollars, which it does! So, when Treasury removes tax dollars from tax accounts, it is doing nothing more than assisting the Federal Reserve to conduct monetary policy. Like the Fed, it destroys the US dollars, performing a reserve drain, so the Fed doesn’t have to. The reserve drain then allows Treasury room to continue spending.

The reality is this: The Federal Reserve could maintain a zero interest rate policy and the federal government could stop issuing bonds and just spend dollars into existence and tax them out of existence, which is precisely what it does right now. Bonds and tax accounts only obscure the reality.

In short, bonds and tax accounts are a sham; they are rituals designed to hide the fact that the federal government can always issue US dollars easily, harmlessly and willfully out of thin air without the need for bonds or taxation as revenue and that the federal government also taxes US dollars out of existence. Bonds, as a matter of fact, are nothing but corporate welfare. Congress orders Treasury to issue bonds, because bond markets and corporations demand them. These entities then use our public funds to manage their risk and engage in speculative investments. How does that sit with you?