Federal Reserve funding US budget deficit

[mvanwink5]

I am posting this here because you guys are clear thinkers and I need a major sanity check. Tell me if I am guilty of thinking the sky is falling down when it is clearly not.

There is a new graph, started last week, on the Federal Reserve weekly money supply report (see page 16 of the St Louis Fed weekly publication http://research.stlouisfed.org/publications/usfd/ ). I have looked at this report since 1982 because it gives the unvarnished truth of what is going on with the money supply. The problem with the new graph is not being reported in the mainstream press but the cause of it is, namely ultra massive deficit spending by the US Government. This is not ordinary massive deficit spending that is financed by the government selling Treasury Securities to individuals and foreign governments like China, Russia, Great Britain, Saudis, etc. The amount of government deficit spending is so much now that nobody on earth is willing to fund it, not even China. So the Federal Reserve has started funding the budget deficit at a rate of $800 billion/year! (by eyeball estimate from the graph)

The little graph (on page 16), shows the new accumulation of US debt by the Federal Reserve at the rate of $800 billion/year (nice little linear ramp that starts in April). The future US government deficit is optimistically an additional $9 trillion with no end in sight, so this $800 billion/year loans to fund the US government deficit can't be stopped and will likely accelerate (the deficit must be funded somehow). Monetizing the deficit by the Fed funding this deficit is nothing short of the destruction of the United States currency. This new insanity is the result of the current fiscally insane US government budget policies. I think it is pure self delusion to think that multi-trillion dollar deficits are ok, or just not good but we can do it. This is not like California not able to pay teachers or policemen; it's not, because the US government is now starting to tap into the Federal Reserve to fund these deficits. This change is not just extra bad, it is impending destruction.

Tell me where I am missing a decimal or something.

[TallDave]

Hmm? The Fed has always been a major holder of U.S. debt.

http://en.wikipedia.org/wiki/United_States_public_debt

What you really want to look at is interest rates. When the U.S. government starts having trouble raising money, look out.

There's a strange cabal working in favor of U.S debt though, in the form of Japan and China. Japan figured out in the 1970s/1980s that if they pushed their currency way down relative to the dollar, they could sell stuff here in the U.S. very cheaply. One way to do this is to buy U.S. debt. China is now riding the same train.

[TallDave]

This is why, btw, I find it very interesting exporters are making noise about a non-U.S. reserve currency. They're either bluffing or they haven't thought through what that will do to their competitiveness on the American consumer market.

[mvanwink5]

TallDave, thanks for the reply and wiki link. There is quite a bit to digest, but found this:
"The Fed holds at least $534 billion of the national debt. The "securities held outright" value used to directly represent the Fed's share of the national debt, but after the creation of new facilities in the winter of 2007-2008, this number has been reduced and the difference is shown with values from some of the new facilities." with an attached graph,
http://en.wikipedia.org/wiki/File:Conso ... ASSETS.gif

Although the numbers are not identical, it does show some additional history of Treasury securities that were not included on the weekly St Louis Fed publication. Further, it is not clear what the function is for holding these securities even though 750 billion is not worrying, as long as it is stable within a range. What caught my attention was the recent rate of increase and my worry that the Fed may be enabling the US government out of control spending by monetizing the debt through the Fed, which this new graph on the St Louis Fed weekly report supported. Of course, the real issue is will it continue to be a monotonic increase, and break with history.

So, WTF, I guess my distrust in our behind doors mysterious agenda leaders is showing at the seams. It is a shame I don't find solace in drink, seems to help some.

Once again, thanks!javascript:emoticon(':)')

[vankirkc]

TallDave, thanks for the reply and wiki link. There is quite a bit to digest, but found this:
"The Fed holds at least $534 billion of the national debt. The "securities held outright" value used to directly represent the Fed's share of the national debt, but after the creation of new facilities in the winter of 2007-2008, this number has been reduced and the difference is shown with values from some of the new facilities." with an attached graph,
http://en.wikipedia.org/wiki/File:Conso ... ASSETS.gif

Although the numbers are not identical, it does show some additional history of Treasury securities that were not included on the weekly St Louis Fed publication. Further, it is not clear what the function is for holding these securities even though 750 billion is not worrying, as long as it is stable within a range. What caught my attention was the recent rate of increase and my worry that the Fed may be enabling the US government out of control spending by monetizing the debt through the Fed, which this new graph on the St Louis Fed weekly report supported. Of course, the real issue is will it continue to be a monotonic increase, and break with history.

So, WTF, I guess my distrust in our behind doors mysterious agenda leaders is showing at the seams. It is a shame I don't find solace in drink, seems to help some.

Once again, thanks!javascript:emoticon(':)')

The Fed already announced that they're going to stop this practice.

http://www.bloomberg.com/apps/news?pid= ... SZxT_ApEsI

[mvanwink5]

Thanks vankirkc, I had not heard that the Fed is not likely to continue additional Treasury security purchases. That is a major relief that the Fed is not going to monetize the US debt. Of course, that leaves the question of where the US will get the loans for their projected $9 trillion deficit.

As the budget insanity unfolds...

[vankirkc]

Thanks vankirkc, I had not heard that the Fed is not likely to continue additional Treasury security purchases. That is a major relief that the Fed is not going to monetize the US debt. Of course, that leaves the question of where the US will get the loans for their projected $9 trillion deficit.

As the budget insanity unfolds...

I think the Fed's thinking is that 'irrational exuberance' drove prices well beyond their intrinsic value, but rather than let them deflate again they'd inflate the currency a little to bring the intrinsic value back into line with the new prices.

It will be interesting to see whether the political will is there to prevent us from inflating out of our debt.

[hanelyp]

It will be interesting to see whether the political will is there to prevent us from inflating out of our debt.

Current bunch: I wouldn't bet on it. They don't strike me as knowing enough to control inflation if they wanted to.

Why is it that so many economists appear more afraid of less than 1% deflation than higher rate inflation? Falling prices haven't damaged the electronics industry that I can see. As I see it an occasional spot of low rate deflation offsetting inflation would be a good thing. Just avoid high rate or sustained deflation.

[vankirkc]

It will be interesting to see whether the political will is there to prevent us from inflating out of our debt.

Current bunch: I wouldn't bet on it. They don't strike me as knowing enough to control inflation if they wanted to.

Why is it that so many economists appear more afraid of less than 1% deflation than higher rate inflation? Falling prices haven't damaged the electronics industry that I can see. As I see it an occasional spot of low rate deflation offsetting inflation would be a good thing. Just avoid high rate or sustained deflation.

They're afraid of the penny pinching cycle. Postponing purchases to tomorrow in the hopes of lower prices adds momentum to a downward cycle that is difficult to control. Artificially induced inflation neatly solves this problem.

[zenakuten]

If the money supply doesn't increase with the actual wealth of society, then people will spend less money since it will be worth more tomorrow than it will be today. Nobody will give out loans unless they get a better return than just holding onto the money. If the savings rate is too high, the end result is everybody has big piles of money, but nobody makes actual stuff anymore. That's the idea anyway.

I don't entirely buy into it myself. Exponential growth within a finite environment are incompatible. A little deflation and a return of sound money would do the world some good, but doing that would make the enormous US government go kicking and screaming the whole way down.

[hanelyp]

They're afraid of the penny pinching cycle. Postponing purchases to tomorrow in the hopes of lower prices adds momentum to a downward cycle that is difficult to control. Artificially induced inflation neatly solves this problem.

Saving your money in the expectation it will be worth more later comes at an opportunity cost: you don't have what you could buy until later. So long as the deflation rate is low that's enough to keep the market going. Having savings is also generally more stable.

Lending is driven by interest being a margin over the inflation rate, such that what is paid back is worth more than simply holding the money by enough to cover the risk and the opportunity cost. A low or slightly negative inflation rate shifts the interest rate, but I would not expect it to render loans unavailable.

The market works best when money holds value, neither inflating nor deflating at any great rate.

[TallDave]

Why is it that so many economists appear more afraid of less than 1% deflation than higher rate inflation?

Liquidity trap. They see Japan's decade of recession.

http://en.wikipedia.org/wiki/Liquidity_trap

Personally, I think this is overblown. Things are always getting cheaper and better anyway. As long as you don't create new distortions (as Japan did, with stimulus) its not that bad a situation to be in. GDP often undervalues productivity enhancements. Quality of life can improve at a steady GDP (i.e. zero growth).

I think it tends to panic the planners because they have less control over growth. It's fun to push the interest rate lever and watch an economy grow. It's probably a bit panicking when the pedal is stuck to the floor and the car isn't going any faster.

[Soylent]

This is why, btw, I find it very interesting exporters are making noise about a non-U.S. reserve currency. They're either bluffing or they haven't thought through what that will do to their competitiveness on the American consumer market.

The fact that the dollar is a reserve currency has allowed the US to overconsume and export much of the harmful effects of the inflation. China has quite enough mortgage backed securities and other US junk bonds and they have quite enough US treasuries that will be paid back in devalued dollars. Why would they want more?

The US consumer is in too much debt and has next to no savings; it would be really dumb to try and base any durable recovery on exports to the US.

[Soylent]

If the money supply doesn't increase with the actual wealth of society, then people will spend less money since it will be worth more tomorrow than it will be today.

I believe some amount of deflation is beneficial. If you have 3%/year deflation you're going to save money unless you can think of a business opportunity so good that it's likely to beat the baseline performance of 3%/year.

If you have inflation people are going to jump at really stupid business propositions(e.g. participating in a housing bubble) just to preserve value. With the cheap interest rates under Greenspan it was highly unattractive to just stick that money in a CD and very attractive to leverage up and gamble.

[TallDave]

The fact that the dollar is a reserve currency has allowed the US to overconsume and export much of the harmful effects of the inflation. China has quite enough mortgage backed securities and other US junk bonds and they have quite enough US treasuries that will be paid back in devalued dollars. Why would they want more?

Why indeed, especially at a moment when it doesn't look like a great investment. What's the only thing worse than a bad future investment? Seeing China's economy collapse around their ears now. A trade surplus is a double-edged sword.

The flip side of having a strong currency is that our producers have been forced to become much more efficient. As the dollar falls, exports grow. The more it falls, the better for producers -- and our consumers are happy to buy American if that's the better deal. And since our debt is dollar-denominated, the pain is felt by those holding our devalued debt.

The US consumer is in too much debt and has next to no savings; it would be really dumb to try and base any durable recovery on exports to the US.

Well, it depends. True, the U.S. private debt is highly leveraged after the recent decline in assets (and savings rates have risen in response), but that doesn't mean we don't still have the most disposable income in the world, and the most generous trade laws.

There's a common misconception that debt is a bad thing per se. But in fact the poorest countries in the world are also the places where people have the least debt, as Hernando De Soto details in his book The Mystery Of Capital. Collateralization drives growth by creating liquid, transferable capital.