Federal Reserve Deposits

Federal Reserve Deposits, also known as Federal Reserve Accounts, are deposits of gold or, later, Treasury Bills placed by United States banks with the Federal Reserve, the central bank. They are interchangeable with Federal Reserve Notes; both are forms of reserve balances and act as backing for the banks to create their own deposits in the form of loans to customers or to each other.

The Federal Reserve (Fed), when founded in 1913, sought to integrate the individual banks in the United States. To this end, they prohibited private bank notes and limited banks to only creating deposits. In 1914, it was opened for business, it had an operating committee. The banks could create deposits (as governed by their reserve ratio) backed by either gold or direct gold deposits at the Fed. Because the Fed offered convertibility between gold and these gold deposits, and they provided the legal means for banks to expand deposits under the reserve ratio, many banks chose to deposit their gold with the Federal Reserve. The advantage of Federal Reserve Deposits over Federal Reserve Notes was that it greatly facilitated interbank lending and check-clearing. This was because Federal Reserve Deposits while being valid money did not exist in paper form, so they were easy to transfer from bank to bank.

These gold deposits would become known as Federal Reserve Deposits and quickly lost their 100% gold backing. During the Fed's inception, the Fed needed only to back gold deposits by 35%. This created a very dangerous situation because if more than 35% of banks demanded their Federal Reserve Deposits as gold, then the Fed would be insolvent. Such a crisis did happen in 1933 and Federal Reserve Deposits (as well as Federal Reserve Notes) lost their gold backing. Foreign governments were still allowed to be on the gold standard and their Federal Reserve Deposits were still redeemable in gold. But these too were only fractionally backed. This inevitably led to another gold run in 1971, led by heavy withdrawals by Switzerland (51 million) and France (191 million). Nixon chose instead of heavily devaluing the dollar against gold, to simply remove the US from the international gold standard.

As of July 2017, the Federal Reserve's balance sheet shows $2.5 trillion in Federal Reserve Deposits as opposed to $1.5 trillion in Federal Reserve Notes. The largest holders of Federal Reserve Deposits are foreign governments, the Treasury, and mostly private banks in the US. Private citizens and companies are not allowed to hold Federal Reserve Deposits. Both Federal Reserve Deposits and Federal Reserve Notes are recorded as liabilities to the Fed. What the Fed has exchanged these deposits and notes for (gold and mostly t-bills) are recorded as assets to the Fed. To the private banks, the Federal Reserve Deposits are assets. Private banks do have the option to convert Federal Reserve Deposits into Federal Reserve Notes and vice versa, as needed to meet the demands of bank customers.

The following are typical accounting entries that help explain how Fed Funds function. A = Assets, E = Equity, and L = Liabilities

During the Fed's inception, the first significant transaction was that a bank would deposit their gold at the Fed. Figure a 1000 dollar deposit.

Private Bank Balance Sheet

Federal Reserve Balance Sheet