Money Is Debt

If you look in your wallet right now, you might see a piece of green paper with a number on it. You call it "money." You work for it, you save it, and you use it to measure your success. But what if you're told that the money in your bank account doesn't actually exist in the way you think it does?

Most of us grow up believing that banks are just safe warehouses for our cash - like a digital piggy bank. We believe that when a bank lends money, they are lending out existing savings. This is the greatest illusion in modern history. The reality of our monetary system is far stranger than fiction. It is a system built not on gold or tangible assets, but on debt and thin air.

Fiat Money

First, we must understand what we are using. We use Fiat Money. "Fiat" is Latin for "Let it be done" or "It shall be." It is money by decree. Unlike money of the past, which was backed by gold or silver, the U.S. Dollar (and the Euro, Yen, etc.) has no intrinsic value. You cannot walk into a bank and trade your paper dollar for a specific amount of gold.

Its value exists solely because the government says it does, and - more importantly - because we all agree to trust it. It is a shared psychological confidence game. As long as we trust the government can tax its citizens to pay its debts, the money has value.

How Fiat Money Is Created

To understand how money is created, we have to look at the relationship between the Depositor and the Borrower. When you deposit $1,000 into your bank (acting as the Depositor), you aren't just "storing" it. You are legally lending it to the bank. The bank now owes you an IOU (your account balance). But the bank doesn't keep that $1,000 in a vault. They use a system called Fractional Reserve Banking, which allows them to lend out the vast majority of your money to someone else.

Here is the math of the magic trick:

1. You deposit $1,000. You check your app, and it says you have $1,000.

2. The bank keeps a tiny fraction (the reserve) and lends $900 of your money to Bob (the Borrower) to buy a used car.

3. Bob gives the $900 to the Car Seller, who deposits it into their bank.

Now, you have $1,000 in your account, the Car Seller has $900 in their account. So the total money in the economy is $1,900. Where did the extra $900 come from? It was created out of thin air at the moment the bank signed the loan for Bob. This process repeats over and over. The Car Seller’s bank lends out 90% of that $900 ($810) to someone else. In our system, money is not created when you work; it is created when someone borrows.

Federal Reserve and Bank Bail-Outs

This system works perfectly as long as everyone trusts it. But it has a fatal flaw: The money isn't there. If every depositor showed up at the bank on the same day and asked for their cash (a "Bank Run"), the bank would collapse instantly. They only keep about 10% (or less) of deposits on hand; the rest is tied up in 30-year mortgages and car loans that can't be recalled quickly. This is where the Federal Reserve steps in as the "Lender of Last Resort." To prevent panic, the Fed stands ready to lend emergency cash to banks that are experiencing a run. By guaranteeing that banks always have access to liquidity, the Fed stops the panic before it starts. If people know they can get their money, they usually don't rush to withdraw it.

How does the Fed get this money? They create it. The Fed opens a "Discount Window" where banks can bring their assets (like those 30-year mortgages) and pledge them as collateral. The Fed then types numbers into a computer, creates brand new digital dollars, and lends them to the bank.

Does the bank pay for this? Yes. The Fed charges an interest rate called the Discount Rate. This rate is intentionally set higher than normal market rates to act as a penalty. This ensures that banks don't abuse the system—they only use this "magic money" in a dire emergency because it is expensive.

Once the panic subsides, the bank pays the Fed back (plus the interest), and that created money disappears. It is a temporary flood of new money designed to stop the system from seizing up.

How the Government Prints Money

We just saw how the Fed creates money to bail out private banks. But there is a much bigger magic happening at the federal level. If banks create money when you borrow, who creates money when the government needs to borrow? The U.S. Government almost always spends more than it collects in taxes (this is the Deficit). To pay its bills, it needs cash. It can't just print money directly. So, it uses a two-step swap with the Federal Reserve.

1. The government prints a piece of paper called a Treasury Bond. This is essentially an IOU that says, "Loan me $1 Billion, and I'll pay you back with interest."

2. The Federal Reserve prints a check (or types numbers into a computer) for $1 Billion.

3. They basically trade. The Government gets the cash to spend on military, healthcare, or stimulus checks. The Fed puts the Bond on its balance sheet.

Technically, the Fed has "bought" the debt. But practically, they have just monetized the debt. They turned a piece of paper (the bond) into spendable cash.

The 2020 Example

The clearest example of this happened in 2020. When the pandemic hit, the government needed trillions of dollars instantly to save the economy. They didn't have this money sitting in a vault. So, the Treasury issued massive amounts of new debt. The Federal Reserve stepped in and "bought" roughly $3 Trillion of this debt almost immediately. Trillions of dollars that did not exist in 2019 were suddenly flooding the economy in 2020. Unlike the "Discount Window" loans to banks (which are temporary and paid back quickly), this money stays in the system for a long time, permanently increasing the money supply.

Money IS Debt

This leads to the most uncomfortable truth of our financial system: Money and Debt are the same thing. Because money comes into existence through borrowing (either by the government borrowing from the Fed, or you borrowing from a bank), every dollar in your pocket represents a dollar of debt owed by someone else. Even the physical cash in your hand is a form of debt. Look at the top of any US dollar bill. It says "Federal Reserve Note." In the financial world, a "Note" is a legal term for a debt instrument (an IOU). It is a promise to pay. When you hold that paper, you are holding a debt instrument issued by the Federal Reserve.

Why Does This Matter?

Understanding this changes how we view the world.

1. Inflation is a Feature. Because money is created by debt, the supply of money is constantly expanding (as we saw in 2020). This is why things get more expensive over time. Your savings are being diluted by the creation of new money.

2. To keep the system from collapsing, we must constantly borrow more. If borrowing stops, the money supply shrinks, and we hit a deflationary depression.

The system is designed to depreciate your currency. Once you understand that the dollar is a melting ice cube, you realize why the wealthy don't hold cash - they hold assets (real estate, stocks, gold, businesses).

Money is a tool, but it’s a tool that is designed to lose value. Don't hoard the paper; own the assets.