How Fed pumps in money into the system

An interesting article in the NY Times explains it all - how US Federal Reserve pumps money into the system...basically, the grail of how Quantitative Easing works.

Take a look at how QE works here, explained in a simple way:

(click for a sharper image)

Basically, Fed prints money and deposits it in its own account (I know what you're thinking of right now...I wished the same ;)). This money is then used to buy back bonds sold by US Treasury to banks. The bank use this money for lending, both commercial and retail, through lower interest rates, which motivates people to take loans and spend it on either revenue / capital expenditure. This creates demand for people, products, services and takes the economy on a higher growth path.

The article gives a glimpse of how it all is actually executed by a few traders sitting in the Fed's office...and buying bonds from the 18 PDs (Primary Dealers - who have the sole authority to buy bonds from treasury in the first place).

So, by issuing QE I, Fed bought back bonds worth over $ 1 tn from these large banks / PDs, and with QE II, Fed is again buying back another $ 600 bn from them. All this money is supposed to go into the system as loans to companies and people like you and me...to build better products, to buy houses, etc. but is it actually happening?

Consider this really interesting article from The Telegraph, which talks about trap that America's have-nots are in. It talks about how high-end luxury stores like Cartier and Louis Vuitton US are witnessing strong growth over 50%, but bargain shops like best buy and Walmart are seeing a drop in sales !

It summarized the context of this post beautifully:

"Such is the blighted fruit of Federal Reserve policy. The Fed no longer even denies that the purpose of its latest blast of bond purchases, or QE2, is to drive up Wall Street, perhaps because it has so signally failed to achieve its other purpose of driving down borrowing costs."

It further goes on to say:

"Corporate America is in a V-shaped recovery,” said Robert Reich, a former labour secretary. “That’s great news for investors whose savings are mainly in stocks and bonds, and for executives and Wall Street traders. But most American workers are trapped in an L-shaped recovery."

I like that phrase - "L-shaped recovery"...personifies the current pain of American Middle-class...with its growing mortgages as interest rates grow, inability to get out of their investments in housing, unemployment hitting every 5th employable person, and even pensions at risk because of states inability to keep up with the payments.

And all that Fed does is to pump in more money into the system - very much like digging deeper in order to get out of the trench...all the best making it work Sammy.