So NPR had occasion to mention the federal reserves' policy of QE (quantitive easing) this morning. And once again made the false claim that QE "pumps money into the economy" when the central bank buys bonds.

Generally speaking, this is not how it works, as reserves are interbank payment clearing tools and never leave the banking system. Never, ever.

To understand why this is so, let's imagine that there is no paper money in existence. The central bank decides to mark up your bank account with reserves. What can you do with reserves? You can use your credit card to make a payment at Best Buy or a restaurant or what have you.

Once you do, your bank account will be marked down and Best Buys' account will be marked up. The reserves never left the banking system. If there was no paper money, money itself would never leave the banking sector.

What if you want to withdraw the reserves sitting in your bank account? Can you demand reserves? No.

What you can demand is paper money. But paper money is a NOTE, ie, a receipt, not the reserve itself.

When you demand $1 in paper money, your bank gives you a $1 note, and the central bank deducts $1 worth of reserves from your banks' account it holds at the central bank.

When you deposit a $1 paper note, the central bank credits your bank with $1 worth of reserves because you have not deposited a reserve, but a reserve note, or receipt.

Youtube is filled with little illustrations showing that the central bank prints paper dollar bills, and then those paper dollar bills flow out into the economy at large.

This is a fairly accurate depiction of what happens with paper money, - or notes or cash - but reserves are not notes and they aren't cash and they aren't paper.

Reserves are always only accounting marks on spread sheets and never leave the banking sector.

QE has been the exchange of one dollar denominated asset for other dollar denominated assets - reserves in exchange for treasury bonds and mortgage backed securities (primarily).

As long as the central bank is exchanging reserves for bonds and securities owned by banks, then no new money ever has a chance of getting out into the wider economy. This is so for 2 reasons:

1) It's merely a dollar for dollar asset exchange, so the accounting is: +1 - 1 = 0

2) Reserves never leave the banking sector.

Point number 2 includes the fact that banks do not loan out reserves. Rather, banks create deposits out of thin air by creating loans out of thin air. Similarly, the BitCoin creating computer program creates BitCoins out of thin air and does not need reserves of any kind before it can do so.

Banks make loans first. If they fall below their reserve requirements in countries that have reserve requirements, then they find the reserves after making the loan. First, they try to get the reserves by borrowing them from another bank that has more reserves than they need. If this fails, then they go to the central bank for a loan. The central bank will satisfy any banks' needs for reserves in order to preserve our payments system.

What if the central bank exchanges reserves for a bond not owned by a bank, but by a non-bank individual? Let's say you own a bond and the central bank takes your bond in exchange for reserves.

You had earned $1 and used that dollar to buy the bond. Now rather than $1 tied up in a bond, your bank account is marked up with $1 worth of reserves.

Are you any more wealthy?

No. You are, however, more liquid. Just what impact this extra liquidity has on the wider economy is up to you: Do you spend it at Best Buy? Save it? Buy another bond? Etc...

However, what if, rather than a bond, you owned some other security that had lost value during the crash?

So, let's say you bought a security for $5 one day, but it falls in value the next day and is now only worth $1.

If the central bank exchanges your $1 worth of securities for $1 worth of reserves, then no new net financial asset has been created.

But, if the central bank allows you to not mark your security to market value, then you come out ahead by $4.

Just how much the central bank has been dealing with bank owned bonds and securities vs the non-bank sector is not known, but most assume that the central bank has been dealing mostly with bank owned bonds and other types of securities, especially mortgage backed securities.

(Again, however, since the federal reserve is not transparent in its' dealings, no one knows for sure).

So, now the banks are choked full of reserves.

And banks have been relieved of their crap mortgage backed securities, which they did not have to mark to market, ie, did not have to show a loss. This is the real bail out.

That the banks are now choked full of reserves has nothing to do with the wider economy. It matters not to either you or me, or GE or Trump.

NPR thinks all these reserves are just flowing out into the rest of the economy.

They aren't. And they can't. If they did - we'd be seeing huge levels of inflation. We're not. Because reserves are just interbank payment clearing tools and never leave the banking sector.

Reserves are reserves. Paper money is a federal reserve note or receipt, not a reserve.

The main impact of QE on the wider economy is the lack of treasury bonds available for money to buy. Since money can't buy treasury bonds (because the central bank has bought so many of them up), money finds its' way into riskier investments, like the stock market, housing market, etc....

Where did all this money come from? 2 places: The Treasury and Private Bank created credit.

It didn't come from the central bank creating reserves, because reserves never leave the banking sector, even when you demand the reserves in your bank account be exchanged for paper money.

And unless you put that paper money under your bed, it too will end up back in a bank, whereupon the central bank will mark up that banks' account with an equal value of reserves.