Courtesy of Sandeep Jaitly @ Fekete Research.com:
What we are currently witnessing with the various ‘quantitative easing’ procedures across the world is the culmination of a process that began many decades ago in the 1920s shortly after the establishment of the Federal Reserve System.
The Federal Reserve System was set up in 1914 to run in a similar fashion to the London gold bill market. The charter informs us that the purpose of the System is to:
“…furnish an elastic currency, to afford means of rediscounting commercial paper, to establish a more effective supervision of banking in the United States, and for other purposes…”
At its founding, the assets of the system were limited to commercial paper, i.e. self- liquidating gold bills and gold, to the strict exclusion of government securities – i.e. government bonds redeemable in gold (via the fiat ‘dollar’ name intermediary.) This was thrown to the wind during World War I. The ‘Liberty Bond’ series was initiated in April 1917 with a $5bn issue, followed by a $3bn issue in October. In 1918, April and September saw $3bn and $6bn issues respectively. The first four ‘Liberty Bond’ issue amounted to $17bn (approximately 25,000 tonnes gold.) When the repayment of these bonds within the given schedules looked more unlikely, they started appearing on the System’s balance sheet and were thus ‘accommodated.’
Bills being discounted from the Member banks started to dry up in the early 1920s reducing the Reserve banks’ revenue, as the ‘Liberty Bonds’ were rolling off. So in the first half of 1922, they purchased government securities from the open market. This didn’t have the intended effect – as soon as government securities were purchased, any commercial bank paid off their loans to the Reserve banks further – increasing the Reserve banks’ income. But, the commercial banks were in a theoretically more advantageous situation for lending on.