The Federal Reserve is not a Government entity. They are a private centralized bank of the USA. They print IOU's that we call the dollar. The dollar is actually the Federal Reserves liabilities.

The general idea is that the Federal Reserve regulates other banks in America. The only thing they can regulate is by saying how much a bank needs to hold in Reserve. For example, if they say that a bank needs to have 20% in reserve, suddenly banks can't loan out as much money and that effects the economy because there is suddenly less available "money" (or as you now know debt.)

They could also drop the reserve ratio which allows banks to loan out more money. In Europe there is no reserve ratio so every euro you put in the bank can be loaned out to someone else instantly. This seems to be working out for them right now since their banking system hasn't collapsed.

It also works because people tend to not use cash very often. So at the end of the day bankers can meet together and exchange the small differences in deposits. For example, if I got a loan for $100 and I used it to pay someone, chances are that $100 bill would end up in a bank within 24 hours. Does that make sense?

Yes the bank does make interest on the money that you keep in your checking and/or savings accounts. That money is instantly loaned out. Sometimes to people, sometimes to other banks who are a little short on cash. The Federal Reserve decides what the interest rate is for banks to loan to other banks. Right now it is 6% APR. Usually the loans are made for a one day period, just so a bank can keep it's required reserve and still make loans. Banks can also get a loan from the Federal Reserve. The Federal Reserve (and I know this will sound hypocritical) won't actually send cash to that bank to hold in reserve, it will simply say, "okay you've got us backing these loans" and then that bank can loan out more money.

Lately, however, the Federal Bank has tried not to loan out money to other banks.

Also, banks can hold some of their cash reserve in the Federal Reserve, if they choose to. Some do, some don't...

Taking out a loan is usually based in part upon your salary, your credit score, and your job history/stability. Having a co-signer or a down payment (depending on what type of loan it is) will also help you get a loan.

Generally speaking the bank does not have the money to give you a large loan. The fact is, most people are pretty satisfied with simply having the number written into their account- therefor cash is not needed. They simply write the number into the account, knowing that you won't spend that money right away.
Source(s):
*Macroeconomics, 7th Edition
by Colander, David (Economics 1500 reading material.)
*http://en.wikipedia.org/wiki/Federal_Reserve
*http://www.youtube.com/watch?v=vVkFb26u9g8 (a video I highly recommend for basics on Federal Reserve/banking as well as history.


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