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“Money” in the US has tangible existence in three forms:Coin created by the US Treasury, which still has nothing to do with the Federal Reserve.Bank notes. Functionally equivalent to coins, but have a legal distinction as Bearer liabilities of the Federal Reserve.Ledger balances on Fed mainframes in some secret location. Hard drives and magnetic tapes list balances at Federal Reserve of accounts of :US TreasuryBanks with Master Account agreements with their local federal reserve bank (such as Bank of America and Richmond Fed).A handful of other customers, such as foreign governments’ dollar accounts and international organizations such as IMF.If you only wanted to know “where the money came from,” you can skip the rest of the answer. The monetary base has no physical limit. Money is printed through some COBOL program in some secret bunker owned by the Fed.A Planet Money episode about ACH give a hint about how the Fed works. ACH and checks are cleared through the mainframes. Essentially, the Fed only said “I could tell you where these mainframes are, but then I’d have to kill you.”Episode 489: The Invisible Plumbing Of Our EconomyThe rest of this answer deals with the legal aspects of the bailout. While the Fed could print 100’s of trillions of dollars with ease, they have limited legal authority. It goes into the sausage-making quite a bit, but personally I like knowing exactly how these programs concretely worked.Legal Constraints on MoneyAll three types of money have little physical constraint, but have legal constraints to how much the Federal Government can print and how the money is used.For #1, the “trillion dollar coin” idea was floated because the US Treasury has theoretically unlimited power to create coinage. Obama could not have spent the coin as he saw fit. Spending was set by Congress. But he could have funded that spending with a trillion-dollar coin instead of debt issuance.#2 and #3 is the substantial portion of money. They have no physical constraints but have significant legal constraints. The Fed could arbitrarily credit Bank of America’s account with $500 trillion dollars. Bank of America mainframes could also credit your account with $1 trillion. Bank of America has many layers of controls though to prevent that from happening. BoA’s shareholders and regulators heavily control and audit its books and computer programs.Similarly, the Federal Reserve banks can only act within the guidelines of the Federal Reserve Act. The 12 Federal Reserve banks are corporations for purposes of entering contracts, to sue and be sued, etc., but exist within strict statutory guidelines. The Kansas City Fed can’t just start selling tacos.In normal times, the Fed used two main methods to adjust the reserve balances:Open Market Operations. The New York Fed enters into agreement with its brokers, called “Primary Dealers.” If a Treasury is purchased on open market, the Primary Dealer’s Fed account is credited, usually at a separate clearing bank. Sales of the Fed’s assets conversely destroy money by debiting the bank account.Discount Window, or Lender of Last Resort. The Fed will lend margin to member banks based on the quality of collateral. For example, Treasuries may get 99 cents in margin while credit card loans get less than 50 cents.The Fed has ledgers of Treasuries similar to its ledgers of dollars. So for both OMOs and Discount Window, the Fed has possession of Treasuries on its mainframes.For purchases or lending of non-Treasury securities, the Fed either takes physical possession of the securities (i.e. Promissory Notes) or the Fed’s account at the DTC is credited. DTC is the central securities repository for most stocks, bonds, etc.Bear Stearns and AIG BailoutsIn 2008, the Fed used a dormant clause of the Federal Reserve Act for “unusual and exigent circumstances.” Specifically, the Federal Reserve Board of Governors authorized the New York Fed to backstop JP Morgan’s purchase of Bear Stearns.JP Morgan’s agreement to purchase Bear Stearns aside from $30B in assets.The $30B in assets was transferred to a Delaware LLC called “Maiden Lane LLC.” Bear Stearns/JP Morgan received $30B in consideration from Maiden Lane LLC in exchange for the assets.The LLC was funded with a $1.15B subordinated loan from JPM and a $28.82B loan from Federal Reserve Bank of New York. FRBNY credited “out of thin air” whichever account was used by the LLC and received the first proceeds from the loan. Furthermore, after both the FRBNY and JPM loans was paid back, FRBNY, received residuals.Maiden Lane II and III LLCs were setup to bailout AIG. The terms were generally similar, with AIG transferring toxic assets to the LLC and FRBNY lending a senior note to the LLC. The LLCs’ accounts at their bank were credited “out of thin air.”All three LLCs have paid back FRBNY in full.FEDERAL RESERVE BANK of NEW YORKTARPOther answers mentioned TARP, but this program had nothing to do with the Fed. The Treasury purchased preferred shares of banks with transfers from its Fed accounts to the banks’ Fed account. Treasury funded its Fed account with Treasury auctions.Shadow Banking System BackgroundThe Fed created an alphabet soup of programs which backstopped far more debt but made less headlines. The programs were: TAF, CPFF, AMLF, MMIFF, PDCF, TALF and TSLF. The Treasury also had a short Money Market Fund guarantee.Credit and Liquidity Programs ArchiveIn general, these programs backstopped the “shadow banking system.” The shadow banking system had replaced typical bank deposits for institutions with large cash balances. For example, a pension fund could:Put cash balances in a Money Market Fund instead of a traditional bank.Ask its custodian bank to lend its securities. I.e. a hedge fund could short Apple by borrowing a share from CalPERS. The hedge fund has to pledge 50% margin in case Apple goes up in price. The Custodian Bank now has a substantial amount of cash.The MMF and custodian bank then invest in Repo or Commercial Paper.Repurchase Agreements (repo): The MMF/Custodian Bank purchases securities with the promise to buy them back. So $100 mil in securities could be purchased for $94.97 million. Then the counterparty promised to buy back the securities for $95 million the next day. The $0.03 million “haircut” is the interest. Technically, most repo was also tri-party repo, with either JP Morgan or Bank of New York standing in the middle.Commercial Paper: Commercial Paper is a short-term loan with a guarantee by a bank such as Lehman Brothers. A lot of toxic assets were bought by a shell corporation (“SPV”). The shell corporation then issued commercial paper with backing by a bank such as Lehman. This is known as Asset-backed Commercial Paper (ABCP).A true bank has a charter from either OCC or a state charter. Bank accounts had 10% reserve requirements and, before 2008, these reserves yielded 0%. So institutional funds yielded more from their cash balances by using the shadow banking system.The stress on ABCP and Repo began in 2007 with BNP Paribas suspending withdrawals on hedge funds with toxic assets similar to ABCP and some Repo agreements. Starting in 2007, the cost of Repo funding went up and investors demanded better collateral.The Fed introduced the alphabet soup of programs under “unusual and exigent circumstances” to get around the fact bank runs happened to non-banks. While Repo and Commercial Paper were used instead of bank deposits, they did not have the statutory access to the Discount Window.Term Auction Facility (TAF)TAF was instituted in December 2007 under pressure from repo funding. It was merely a different form of discount window, where banks bid on a set amount of discount window funding. The banks who bidded the highest interest rates bid received the funding. From the Fed’s perspective, the program was needed to hide which banks needed liquidity.As with the discount window, the Fed could credit the bank’s Fed accounts out of thin air while taking possession of the collateral.Term Auction Facility (TAF)PDCF and TSLFBear Stearns failed so suddenly because it relied on overnight Repo agreements for funding its balance sheet. By early 2008, the repo market had contracted to only accept Treasuries as collateral. Bear Stearns also started losing traditional bank credit lines.Without the Fed’s intervention, JPMorgan would have stopped clearing trades for Bear Stearns. Bear Stearns was not a chartered bank. Broker-dealers had to settle cash for trades using a clearing bank. Without a clearing bank’s constant short-term credit, a broker-dealer must declare bankruptcy.After Bear Stearns, the Fed put in place the Primary Dealer Credit Facility (PDCF). Essentially, PDCF gave the same terms to non-bank Primary Dealers as the Fed gave banks with its discount window. Administratively, it was a tri-party repo agreement between the Primary Dealer, New York Fed and one of two clearing banks (JP Morgan or Bank of New York).So Merrill Lynch could transfer a corporate bond to JP Morgan, with JP Morgan having that account in the name of the New York Fed. The New York Fed then credits out of thin air Merrill Lynch’s account at JP Morgan, through JP Morgan’s account at the New York Fed.The Term Securities Lending Facility (TSLF) was similar, but involved swapping the Fed’s Treasury bonds for Agency Mortgage-Backed Securities (i.e. Fannie/Freddie) and AAA non-Agency MBS. The Primary Dealer would transfer the collateral to their clearing account, likely using DTC. The Fed would transfer Treasuries it owned previously to the clearing bank. Then the clearing bank would swap the ownership of the two securities. At maturity, the loans would swap back given the auction rate.US Treasury Money Market Fund GuaranteeEven with the PDCF and TSLF, Lehman declared bankruptcy after JPMorgan and Citibank stopped clearing their trades. The Reserve Primary Fund held Lehman-backed Commercial Paper and “broke the buck,” where a share went below $1.00 NAV.On September 19, 2008, Hank Paulson used an expansive reading of the Exchange Stabilization Fund to backstop up to $50 billion in losses on Money Market Funds. Like TARP, these funds were from Treasury Auctions or taxes, and not “out of thin air” like the Fed programs.Treasury Announces Temporary Guarantee Program for Money Market FundsAMLFAlso on September 19, the Fed started the ABCP Money Market Mutual Fund Liquidity Facility (AMLF) to help MMFs get liquidity for withdrawals. This program was administered directly with Fed members who had purchased Commercial Paper from a Money Market Fund. The ABCP had to have been rated the highest rating by two ratings agencies (A-1/P-1/F-1).The loan was non-recourse. So when a bank purchased ABCP from a MMF, it took no risk by taking the loan from the Fed. The Boston Fed administered the program. Administratively, the Boston Fed would credit the borrowing bank out of thin air and the borrowing bank would transfer the ABCP to the Boston Fed’s account at DTC. At maturity, the bank would have to repay the loan amount. However, since it was non-recourse, the bank can default on this loan and the Boston Fed can only use the collateral for repayment.CPFFThe Commercial Paper Funding Facility (CPFF) commenced in October 2008 due to the market for new Commercial Paper drying up. While AMLF funded previously issued Commercial Paper, CPFF funded Commercial Paper directly from the issuers.In administrative terms, the New York Fed engaged PIMCO and State Street to set up the facility. The New York Fed first worked with one of their Primary Dealers to create the trade agreement with the issuer. So Harley-Davidson (yes, one of the program recipients) could make an agreement with Goldman Sachs to sell $100 million in new Commercial Paper to Goldman Sachs’ client, the New York Fed.A shell corporation, CPFF LLC, was created by New York Fed to take beneficial ownership of the Commercial Paper. The New York Fed made recourse loans equal to the purchase amount of each transaction. CPFF LLC in turn used State Street as a Custodian Bank. So these recourse loans were funded out of thin air to State Street’s accounts on behalf of CPFF LLC.The money then flew from State Street’s accounts to DTC’s clearing account for State Street and then to the issuer, such as Harley-Davidson. The issuer’s books would have the Commercial Paper registered to Cede & Co., the nominee of DTC. Then DTC would credit that Commercial Paper to State Street. Finally, State Street held the assets to credit CPFF LLC.MMIFFMoney Market Investors Funding Facility worked directly with MMFs to buy their financial institution liabilities, such as CDs and commercial paper. Apparently, even commercial paper issued by banks was strained in 2008.There are fewer details easily available on this program. It set up a minimum of five shell corporations (SPVs). Their custodian banks were credited out of thin air by the Fed. Then the SPVs purchased these financial institution liabilities from eligible funds. Ultimately, these SPVs allowed these MMFs to meet redemptions where otherwise the market would be strained.TALFTerm Asset-Backed Securities Loan Facility began operation in March 2009. It created an SPV called TALF LLC which received a loan from the New York Fed. As before, its custodian was credited the money out of thin air. TALF LLC then purchased AAA tranches of Asset-backed Securities backed by assets other than mortgages (such as credit cards, auto loans, student loans, etc.)This program got the nastiest headlines since many counterparties were very wealthy or foreign. But the Fed would maintain the true beneficiaries were the ultimate borrowers.ConclusionLost in the sausage-making here is why unemployment went to 10% in the US. Isn’t that what it’s all about? In short, the Fed constantly tries to meet an inflation target by printing or destroying money. Prices are set by both supply and demand curves. However, the money supply can only affect the demand side. It can print more money and usually that money will get spent.Before 2008, “lowering interest rates” really meant the Fed crediting accounts out of thin air in exchange for T-bills. This new money yielded 0% and so usually the money was spent on other securities. Interest rates went down due to higher demand. Ultimately, the new money was spent on real consumption or investment.In September 2008, the Fed hit the zero-lower bound. It could print money and buy T-bills, but the T-bills already yielded 0%. The market demanded cash so much that it was fine getting 0% on T-bills. Now, typical OMOs had no effect on demand.Declines in demand at the zero-lower bound also had a positive-feedback cycle. The math does not work with everyone demanding a fixed amount of liquidity. If demand for cash goes up, then the price of cash goes up. The “price” of cash is really the price of everything else going down.The Great Depression happened due to demand increases for gold world-wide. In that case, deflation was 50%. If markets were perfect, 50% deflation wouldn’t matter since wages would decrease to compensate. Instead, unemployment went up to 25%. Real-world employees have strong expectations of consistent nominal wages. So with 10% revenue declines at a company, the managers are likely to cut employees or hours rather than cutting per-hour wages.So, the details of backstopping the banking system (real and shadow) are somewhat slimy. The structure of Federal Reserve banks is almost certainly unconstitutional under the Appointments Clause. Although the Board of Governors oversaw most of these programs, the unconstitutionally appointed Bank Presidents had significant influence.These programs backstopped trillions in debt and often used a select number of private corporations to administer them. There was no real oversight of the Board of Governors provided under Section 13(3). Section 13(3) was later overhauled by Dodd-Frank.In the end, I would favor not having bailouts at all. Do not even have the Discount Window, even though lender-of-last-resort goes back to the 1800’s. Don’t even have the FDIC. The last one sounds particularly crazy, but the FDIC was the on bank bailout that cost the government money.But we must have an unassailable monetary policy at the zero-bound. Given how much damage was caused by 2008, it is criminal that the entire economics profession is not focusing on how to get around the zero-bound.At the zero-bound, I favor the “helicopter money” proposal Bernanke gave for Japan in 2001. When rates on Treasuries and Agencies are zero, then credit payroll tax and Social Security recipients with money out of thin air. Helicopter money happened indirectly anyway with the 2008–2011 deficits and then the Fed purchasing trillions in Treasuries. Credit everyone’s accounts as a last resort and until general economic measures recover.Furthermore, 100% reserve banking (such as the pending TNB bank) should be favored for cash accounts of regulated institutions, such as pensions. Banks and Commercial Paper would no longer have an exemption for Securities Act registration. So regular depositors would generally have 100% reserve accounts as well. Demand deposits with mismatched maturity assets could not use words such as “bank deposits” in any marketing, including to “sophisticated” investors. These short-term liabilities would need to be registered and underwritten like other bonds, unless only sold to sophisticated investors. In general, have a great mindfulness of the inherent fragility of maturity mismatch.