The institutional structure of the system

A number of problems must be overcome to make the structure work. Inevitably, the offshore U.S. dollars find their way into the international banking system by way of deposits. Therefore, banks must be the main buyers of any financial instruments that the Fed causes to be issued. However, the rules of the Bank of International Settlement (BIS) prohibit banks from buying the newly issued debt instruments from each other directly. This prohibition exists for obvious reasons. If banks were allowed to fund one another, the probability of system-wide bank failure would be increased. This system of funding is not intended to support weak banks; in fact, the opposite objective is the goal. Therefore, a methodology has been constructed that allows banks to buy each other's newly issued paper.

BIS rules do not prohibit banks from owning other banks' financial obligations as long as they are not purchased from another bank directly, but instead are purchased in the secondary market. The Fed supports a group of intermediaries that have substantial available cash reserves. These intermediaries purchase paper from issuing banks and almost always immediately resell it to other banks. These intermediaries are called "commitment holders."

The Federal Reserve board "licenses" a small number of commitment holders to participate in a quiet international monetary policy. These commitment holders are identified by confidential, Fed-issued, registration numbers. These numbers are revealed under extremely controlled circumstances, because once revealed, a knowledgeable individual could cause paper to be issued. The commitment holders are few in number, however they are essential to the smooth functioning of the process. Commitment holders often forge relationships with other sources of funds. These relationships are called sub-commitments.

Holding a commitment entails a number of conditions which are extremely important to maintain. First and foremost, there is a demand for utter secrecy. Second, the commitment holder must be able to quickly produce large sums of U.S. dollars, generally in the billions. This explains why commitment holders are prepared to take on sub-licensees to ensure a large supply of readily available funds. Finally, this is a "funds first" business. No one can buy issued Paper on credit. To ensure this happens and not waste time, a commitment holder will not initiate a discussion with anyone unless they can prove cash funds of high quality security of at least 100 million U.S. dollars.

The Fed, as well, identifies a tier of high quality banks, usually in the top 100, which it authorizes to deal in the paper. Criteria for being on the Fed's list would include strength in the normal banking ratios as well as countries in which the Fed desires to be active. It is evident that the largest supply of international U.S. dollars is in Europe, which explains the dominance of European banks on the Fed list.

Another aspect of this fund raising process is the fact that it is conducted entirely off the balance sheets of issuing banks. Both instruments are guarantees and as such, represent contingent liabilities. As contingent liabilities, they are not posted to the balance sheet. However, they do require a risk-adjusted amount of capital reserve as prescribed by BIS rules. By keeping the funding instruments off balance sheets, there is little, if any, disruption of normal financing activities of the banks.