I flushed my brain of all I thought I knew about our money, now I just need help plz!

[torchbearer]

google "Ponzi Scheme".

 

[gonegolfin]

This is pissing me off just tryin to understand this. I'm losing my f'ing mind.

Gonegolfin and shocker, are you two saying the same thing?

Absolutely not.

It doesn't seem like it. Gonegolfin, u are saying the Fed doesn't do anything to give Congress money it wants, right?

No, this is not what I am saying. I am saying that the Fed cannot and does not conduct outright purchases of treasury securities directly from the Treasury. It does however, from time to time, exchange maturing securities in its portfolio for new treasuries at auction (this is normal and expected). Now, this does not mean the Fed will not change the rules sometime in the future, but this is how purchases function at present. If the government desires funding, it must auction debt through the Treasury. This does not mean that the Fed cannot indirectly support the auctions by soaking up supply in the secondary market. But they cannot participate in the auction nor can they purchase directly from the Treasury.

The method by which the Fed conducts outright purchases (or what are also termed permanent open market operations) is presented in several available documents. One such document is the following ...
http://www.federalreserve.gov/pubs/bulletin/1997/199711lead.pdf
Look on page 866 where "Outright Operations" are documented.

"The Desk may not add to the Federal Reserve's holdings of securities by purchasing new securities when they are first auctioned because it has no authority to lend directly to the Treasury. Therefore, it must make any additions to holdings through purchases from primary dealers in the secondary market or directly from foreign official and international institutions."

The principal quote from shocker's post:
"The Government walks down to the Fed Reserve. From here the unsold Bonds and Treasury Notes are used for a different purpose....

These are packed into something with a very important sounding name called a, "Securities Asset". These "assets" are used as the foundation for the Federal Reserve to write the government a... Federal Reserve Check (a "liability" from the Feds perspective). The Government now has a check it can use to pay for its expenditures.

Where did the Fed get the money to write a check to the government? Does it have an account with lots of money sitting there ready to be given to the Government? The answer is... NO. The Fed doesn't have any money sitting in vault. It just writes the check to Government. That money springs into existence out of the void, and is created as a checkbook ledger to the government. This process is called, "Monetizing the Debt". However, the books are then said to be balanced because the government "assets" (the bonds) offset the Fed's "liability" (the check). Everything balances!! Its all good!!

So in other words, the a basis of the Fed's check to the Government is simply bonds printed on command by the Government.
.
.
.
In this process the money supply is increased, the government gets their money for expenditures, and the result is bigger government and inflation (hidden tax) for the public."

In addition to what I have cited above, there is absolutely no evidence in the balance sheet nor the Fed transactions that anything like the above takes place. The above really does look like a "dumbed down" version to be presented to the masses in an attempt to make it look as if creating new money to fund the government is effortless. The closest thing to the above that happens is that some bonds are reserved at treasury auction such that maturing SOMA (System Open Market Account) holdings can be replaced. Again, this is normal and expected ... and new money is not being created in such an operation.

For central banks that use government bonds as the chief component of their domestic money market operations (Ex. The U.S.), as opposed to the Bank of England or the European Central Bank, which utilize bank repos, it is normal practice not to deal directly with the government. But instead to conduct operations in the secondary market. Failing to do so would result in ambiguity in the pricing mechanism.

Finally, alluding to what I stated earlier ... I monitor all Fed open market operations on a weekly (if not daily) basis and reconcile these operations with the Fed balance sheet and other statistical reports. All of this information is publicly available, with the accounting going through official audit. I have never seen any evidence of direct Fed purchases of Treasury securities. Again, they could change the rules, as they seem wont to bend them during this financial crisis. But the Fed has not been purchasing treasuries direct.

Brian

 

[icon124]

See this is what I mean...

you are basically arguing to get from point A to point B you go right make a left and another left. Other ways are possible to get there like starting out going left, make a right, and another right. The end result is very pretty much the samething. BUT the Fed is only allowed to do it the first way...either way it would still get you to B.

Little technicalities...yes the Fed has to essentially go through a middle man (Which in this case is the secondary market), but the end result is the same. So unless you are working for the Fed and have to follow guidelines who really cares about these little technicalities. Espicially if they can be changed at anytime (which they can be as we see with first hand experience living through this crisis).

 

[gonegolfin]

See this is what I mean...

you are basically arguing to get from point A to point B you go right make a left and another left. Other ways are possible to get there like starting out going left, make a right, and another right. The end result is very pretty much the samething. BUT the Fed is only allowed to do it the first way...either way it would still get you to B.

Little technicalities...yes the Fed has to essentially go through a middle man (Which in this case is the secondary market), but the end result is the same. So unless you are working for the Fed and have to follow guidelines who really cares about these little technicalities. Espicially if they can be changed at anytime (which they can be as we see with first hand experience living through this crisis).

If you do not see the difference (between what I described and what shocker quotes) and believe that "the end result is very pretty much the same thing.", then you do not understand how it works. I am not going to bother to explain it to you because it will be a fruitless exercise.

At this point, you are out of sorts with my admonishment of your tone in the posts I mentioned in another thread. And you are using it as an opportunity to pick an argument. Simply move on.

Brian

 

[icon124]

I see the difference, but I don't think you understand what is being said.

You are incorrect.

Icon

 

[gaazn]

Government is pumping money into the economy because there is a giant hole in the financial system caused by the banks using deposits to fund operations and eat up losses. At the same time, the depositors know something shady's going on, so they are pulling their money out of the weak banks and putting it into stronger banks, government notes, or hard assets. Especially rich people with over $250,000 cash because they have no confidence in the banking system. So there will not necessarily be inflation caused by the government pumping money into the economy. What will be a problem is if the government overshoots, which it probably will, while the depositors start putting money back into the banks again. Then we're all screwed all over again, but in reverse.

 

[tggroo7]

Gonegolfin,

So what does the Fed doing that is wrong and means we should abolish it?

 

[smokey]

.​

Here we go again.

In our system, the reserve requirement ratio does not regulate how much money a bank can loan. Reserves must be held in order to cover withdrawals from customers and payments to other banks.

Large banks do not hold enough deposits to create the reserves necessary to cover payments demanded from other banks due to the large amount of new credit they create, so they must borrow reserves from other institutions in the overnight Fed funds market, the repo market or the Fed's Discount Window. This is why the money multiplier described in various descriptions of fractional reserve banking does not work in our system.

Credit creation is limited by the capital to risk-weighted asset ratio as regulated by the Fed's version of the Basel I Accord. Loans are assigned a risk factor which assigns a higher value to riskier loans thereby decreasing the capital to asset ratio. Letters of credit and ordinary loans are riskier than mortgage loans which are riskier than interbank loans which are riskier than US treasuries. The banks total capital limits the creation of these riskier loans.

Canada, the UK, Australia and New Zealand do not have required reserve ratios. Using the money multiplier one would think that these banks can create infinite credit. This is not so. Credit creation in these countries is limited in the same way that credit is limited in the US.

.​

 

[gonegolfin]

Gonegolfin,

So what does the Fed doing that is wrong and means we should abolish it?

That is a very long discussion to fully address such a topic. For starters, the Fed is interventionist in that Fed policies artificially influence the supply and demand of money and credit. Instead of allowing the free market to function and determine the supply and demand of money and credit. That is an incredible amount of power, especially when you layer a fractional reserve banking system on top of it. Meanwhile, because of its complexity, not many people understand how it functions and therefore do not truly understand our present day notion of money. I would say that is a problem and is of benefit to the bankers.

You are on the right track. You just needed to cleanup some of your statements and correct some of the processes you may have seen from other sources (whether from texts or the internet). There is a lot of conspiracy related material in the wild that either intentionally exaggerates to build an argument or simply gets it wrong. This is unfortunate in that there is some truth in some of the material. But obvious errors cloud the overall message and make it seem less credible.

Brian

 

[Isaac Bickerstaff]

Everything you will ever need to know about modern economics can be extrapolated from these statements:

1. All money is loaned into existence.
2. Money is "uncreated" when the principle of the loan is repaid.
3. The money to pay interest on a loan is loaned into existence somewhere else in the economy.

Here are some quick conclusions to help you get stated.

1. In order for anyone to pay off a loan completely (including interest), someone else needs to go into debt.
2. In order for the money supply to grow, the total interest bearing debt must grow.
3. If loans are being paid faster than people are borrowing, the money supply shrinks.
4. A business with debt must pass its interest bill on to customers in the form of higher prices.

Now why would the bankers that write the economics textbooks not want you to know this?

 

[shocker315]

Gonegolfin,

You seem to be very knowledgeable about the mechanics of the Fed and its interaction with the government. I will accept that my post is a "dumbed down version". I readily admit that I am not an expert in the field, just repeating what I've researched over the years.

I would like to ask a few simple questions to clarify my understanding, if nothing else. I don't need a detailed technical analysis just a short basic answers if you will.

Does the Fed ever, in any fashion, provide funds to the government, directly or indirectly, so that it can pay its expenditures?

If so, are these funds taken from money that already exists, or does the Fed ever provide newly created money that comes into being in some fashion (such as debt monetization)? In other words, do any of these processes ever expand the money supply?

If not, are people in the media and some politicians (like Ron Paul) wrong when they accuse the Fed of "turning on the printing press" to allow the government to pay for expenditures. They recognize that the Fed doesn't actually turn on the printing press, but many use those words because they believe the end result of some of the Fed's processes are essentially the same. Are they incorrect?

 

[tggroo7]

Gonegolfin,

Does the Fed ever, in any fashion, provide funds to the government, directly or indirectly, so that it can pay its expenditures?

If so, are these funds taken from money that already exists, or does the Fed ever provide newly created money that comes into being in some fashion (such as debt monetization)? In other words, do any of these processes ever expand the money supply?

If not, are people in the media and some politicians (like Ron Paul) wrong when they accuse the Fed of "turning on the printing press" to allow the government to pay for expenditures. They recognize that the Fed doesn't actually turn on the printing press, but many use those words because they believe the end result of some of the Fed's processes are essentially the same. Are they incorrect?

Ditto on these questions. And maybe you could use the bailout as an example. How exactly does the bailout plan work?

And one more. So does the Fed and/or government at all do anything contributing to inflation? If so, what?

 

[smokey]

.​

The information I've found so far suggests that the only time the Fed bought treasuries directly from the government (besides trading for expired securities) was in WWII to fund military operations.

This is what Bernanke referred to in his 2002 speech; Deflation: Making Sure "It" Doesn't Happen Here:

"Historical experience tends to support the proposition that a sufficiently determined Fed can peg or cap Treasury bond prices and yields at other than the shortest maturities. The most striking episode of bond-price pegging occurred during the years before the Federal Reserve-Treasury Accord of 1951.10 Prior to that agreement, which freed the Fed from its responsibility to fix yields on government debt, the Fed maintained a ceiling of 2-1/2 percent on long-term Treasury bonds for nearly a decade. Moreover, it simultaneously established a ceiling on the twelve-month Treasury certificate of between 7/8 percent to 1-1/4 percent and, during the first half of that period, a rate of 3/8 percent on the 90-day Treasury bill. The Fed was able to achieve these low interest rates despite a level of outstanding government debt (relative to GDP) significantly greater than we have today, as well as inflation rates substantially more variable. At times, in order to enforce these low rates, the Fed had actually to purchase the bulk of outstanding 90-day bills. Interestingly, though, the Fed enforced the 2-1/2 percent ceiling on long-term bond yields for nearly a decade without ever holding a substantial share of long-maturity bonds outstanding.11 For example, the Fed held 7.0 percent of outstanding Treasury securities in 1945 and 9.2 percent in 1951 (the year of the Accord), almost entirely in the form of 90-day bills. For comparison, in 2001 the Fed held 9.7 percent of the stock of outstanding Treasury debt."

Link

Some, such as William Grieder in Secrets of the Temple, say that the Fed bought all the treasuries not sold at auction. Others say that they bought them as they do now from the banks. I have not yet found a thorough explanation of what occurred.

The problem with targeting government interest rates is that when the procedure serves its purpose it is difficult to stop it. The Fed tried time and again to stop the process after the war but was always hindered by the Treasury in doing so. Inflation hit 18% before they were able to reach an agreement in the Accord of 1951.

Wiki Link on the Accord

As Brian has posted, at this point it appears that the Fed is not allowed to purchase government debt directly at auction. It may be that their charter does not allow them to monetize any asset that has not already been monetized in order to prevent committee operations from having an inflationary bias. In this way they are only replacing money which has already been spent in purchasing the securities.

Look at it this way. If the Fed were to print money to purchase assets directly from the government or other agencies, that money would not be backed by debt. However when they purchase assets that have previously extracted money from the system, the newly printed money is backed by debt -- that is, backed by money created through credit in the banking system. New money by law must be backed by something.

As far as "'turning on the printing press' to allow the government to pay for expenditures," the Fed can print money and buy treasuries from the open market in order to target specific maturities. Bernanke implied in his last speech that the Fed was ready to target longer term government securities. Immediately after this speech, longer term treasuries took off dropping the rates drastically and making it easier and cheaper for the government to sell and pay the debt.

The Fed allows inflation to occur by keeping interest rates low and by ensuring that the banks have plenty of reserves to cover the creation of new debt. It is consumer and business borrowing from the banking system that drives credit creation, hence money creation and inflation.

.​

 

[gonegolfin]

Does the Fed ever, in any fashion, provide funds to the government, directly or indirectly, so that it can pay its expenditures?

I have not seen or heard of any evidence of direct monetization of debt (I am phrasing this to mean Fed purchases of treasury securities direct from the Treasury) in modern times (last several decades). The Fed really discovered open market operations (specifically, secondary market purchases of treasury debt) in the 20's. And while some reserve creation took place via these open market operations during that time, the government really turned to bankers acceptances (BAs) to increase reserves during this time period. BAs were responsible for more than half of all money creation in the 20's. If the Fed could have simply purchased treasuries from the Treasury, why bother setting up a scam BA market where the Fed was both the buyer and seller?

I think what smokey found was some good evidence that the Fed experimented with direct treasury purchases in the 40's. Of course, the government fixed a lot of prices in the 40's.

I think that you can reasonably say that the Fed aids the Treasury indirectly. Certainly in the department of keeping interest rates low. When the government/Treasury needs funding, of course it must auction securities. The Fed can help by soaking up the supply of such securities in the secondary market. But the Treasury still must conduct a successful auction. The Fed does not often conduct such permanent open market operations. They do so occasionally when the supply of Federal Reserve notes must be increased. But I think this is about to change in that I think we will see increases in the SOMA portfolio.

If so, are these funds taken from money that already exists, or does the Fed ever provide newly created money that comes into being in some fashion (such as debt monetization)? In other words, do any of these processes ever expand the money supply?

When you see bank reserves increase, as has happened in the last three months, this is the Fed monetizing assets ("creating money" or "printing money"). The TAF lending program was/is also increasing reserves. Except that the Fed was sterilizing these created reserves by selling treasuries from its portfolio (draining reserves) until September. The net effect (up until September) was that the Fed was taking on questionable assets in exchange for treasuries (taking on credit risk). If you want to know how much money has been created since the blowup in September, simply look at the increase in the monetary base (currency in circulation + bank reserves) (the vast majority was reserve creation). The money supply has been flat to slightly up.

When the Fed purchases such assets from the banks (owned by the banking system), the effect is an increase in reserves (not the money supply). The money supply increases if the banks lend off of these new reserves or invest these reserves (such as purchasing treasuries). If the Fed were to purchase assets owned outside the banking system, this would increase the money supply as it would result in a deposit in someone's account.

If not, are people in the media and some politicians (like Ron Paul) wrong when they accuse the Fed of "turning on the printing press" to allow the government to pay for expenditures. They recognize that the Fed doesn't actually turn on the printing press, but many use those words because they believe the end result of some of the Fed's processes are essentially the same. Are they incorrect?

First, there are a lot of folks that were wrong when they claimed that the Fed was using the "printing press" earlier this year. Schiff has been claiming this since at least August of last year. The Fed did not really turn on the "printing press" until September of this year as the monetary base grew very little up until that time (only enough to keep the Fed Funds at its declining target).

The government does not pay for itself by "printing money". It pays for itself via the issuance of treasury debt. But since the Fed can purchase treasury debt in the secondary market, it can theoretically support the treasury market (we will probably get to test that soon). But the auctions must still succeed. And when the open market purchases are made, if they are made from the primary dealers (as they have been), reserves will increase, not the money supply. So, no ... the end result is not the same, although some results of the process will be (for example, the suppression of interest rates, particularly on the long end of the yield curve).

In the context of this discussion, I should make a special note of how the Treasury has used the Fed recently in its bailout measures. The Treasury Supplemental Financing Program (TSPF) was setup to provide special funding that could be allocated on demand. The Treasury auctioned debt and deposited the proceeds with the Federal Reserve. The Fed then uses this account as the Fed/Treasury deems appropriate. This is mostly in place such that the timing of these direct money injections produce the desired effect in the monetary system (in combination with all of the other liquidity injection programs). I think of it as controlled disbursement in the context of all the liquidity programs.

Brian

 

[gonegolfin]

Ditto on these questions. And maybe you could use the bailout as an example. How exactly does the bailout plan work?

And one more. So does the Fed and/or government at all do anything contributing to inflation? If so, what?

I assume you are referring to the funding of the $700 billion TARP. Treasury debt was auctioned for the TARP, with proceeds deposited in the TSFP Treasury account at the Fed. No new money was created here.

The Fed does not create inflation directly in its typical operations. It creates reserves in the banking system. It does this by converting debt into money (monetization). The banks create inflation with the monetary base as the fuel. Of course the Fed also influences interest rates by manipulating the supply of reserves. Thus, the Fed can encourage lending (and inflation) by providing cheap credit.

Brian

 

[shocker315]

First, thanks for taking the time to answer.

I think that you can reasonably say that the Fed aids the Treasury indirectly.

So the answer to the first question seems to be... yes.

When you see bank reserves increase, as has happened in the last three months, this is the Fed monetizing assets ("creating money" or "printing money"). The TAF lending program was/is also increasing reserves. Except that the Fed was sterilizing these created reserves by selling treasuries from its portfolio (draining reserves) until September. The net effect (up until September) was that the Fed was taking on questionable assets in exchange for treasuries (taking on credit risk). If you want to know how much money has been created since the blowup in September, simply look at the increase in the monetary base (currency in circulation + bank reserves) (the vast majority was reserve creation). The money supply has been flat to slightly up.
When the Fed purchases such assets from the banks (owned by the banking system), the effect is an increase in reserves (not the money supply). The money supply increases if the banks lend off of these new reserves or invest these reserves (such as purchasing treasuries). If the Fed were to purchase assets owned outside the banking system, this would increase the money supply as it would result in a deposit in someones account.

The answer to the second question seems a bit side tracked, as you're talking mainly about how the money supply is expanded through the banking system. So... if the Fed aids the Treasury indirectly.... as you stated above...does anything in this process of aiding the Treasury indirectly, expand the money supply?...your answer is not entirely direct to the point, so it comes across as... "possibly".

The government does not pay for itself by "printing money". It pays for itself via the issuance of treasury debt. But since the Fed can purchase treasury debt in the secondary market, it can theoretically support the treasury market (we will probably get to test that soon).

So my question here is...is there a limit to how much Treasury debt the government can choose to issue, other than the will of the government? How does the government issue Treasury debt? My impression is that they simply "print up" a t-bill, bond, security, at their discretion. I'm sure in practice its more complicated than that, but is it effectively any different?

On a side note, and forgive my ignorance, this may be a stupid question....
You say the Fed can "theoretically support" the treasury market. Now I may be misunderstanding the meaning of this graph since I am not an expert....but the Fed's support of the treasury market seems more than theoretical. According to wikipedia the Fed is large holder of treasury securities.

http://upload.wikimedia.org/wikiped...hip_of_US_Treasury_securities_by_category.gif

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

 

[Isaac Bickerstaff]

http://www.wealthmoney.org/learning2.html

Tales from the Treasury
Find out everything they don't teach you in economics class.

 

[tggroo7]

I assume you are referring to the funding of the $700 billion TARP. Treasury debt was auctioned for the TARP, with proceeds deposited in the TSFP Treasury account at the Fed. No new money was created here.

The Fed does not create inflation directly in its typical operations. It creates reserves in the banking system. It does this by converting debt into money (monetization). The banks create inflation with the monetary base as the fuel. Of course the Fed also influences interest rates by manipulating the supply of reserves. Thus, the Fed can encourage lending (and inflation) by providing cheap credit.

Brian

Thank you much! Your last couple posts helped out quite a bit. Now I'm up to about 10% certainty with what I think I know about economics. It's pretty bad when I knew I didn't know much to begin with, but then I ask about the stuff I thought I knew and it turns out that that wasn't even right.

So just to be sure, the banks - via interest on loans - are pretty much the only direct creators of inflation. The Fed, however, provides the fuel for how much inflation occurs. Is this about right? You know what, please just say yes even if it's not. lol

 

[smokey]

.​

Seen another way:

The banks do not create inflation. They do not force consumers and businesses to borrow.

The Fed and the banks create the environment where inflation can happen.

The Fed can maintain cheap credit through low interest rates and by expanding the monetary base which is the capacity to create credit. The banks are the shopping centers where consumers and businesses go to sign up for loans out-of-thin-air, which increases inflation by spending tomorrow's incomes today.

When the consumers and business can no longer take on more debt, the inflation game ends no matter what the Fed and the banks do. Asset deflation and deleveraging then reverses the process; and what was a virtuous circle becomes a vicious cycle where defaults and business failures exponentially multiply in a negative feedback loop.

This is what we are witnessing now. The authorities are scrambling around trying to reflate the asset bubbles but it's too late. The consumer is finished.

.​

 

[gonegolfin]

First, thanks for taking the time to answer.

You are welcome.

So the answer to the first question seems to be... yes.

Direct, no. Indirect, yes. Although the Fed does not fund government services even indirectly. It can (and does) make borrowing easier and cheaper, which aids the government (at our expense).

The answer to the second question seems a bit side tracked, as you're talking mainly about how the money supply is expanded through the banking system. So... if the Fed aids the Treasury indirectly.... as you stated above...does anything in this process of aiding the Treasury indirectly, expand the money supply?...your answer is not entirely direct to the point, so it comes across as... "possibly".

I needed to describe the creation of reserves versus expansion of the money supply so that you could understand the answer. When the Fed conducts purchases, it is nearly always purchasing assets that are owned by the banking system (purchasing securities (Ex. treasuries) from its primary dealers). Thus, the money supply does not expand (only reserves increase). However, the Fed could purchase assets owned outside the banking system. If it were to do this, it would increase the money supply as deposits would be created.

So my question here is...is there a limit to how much Treasury debt the government can choose to issue, other than the will of the government?

... and the willingness of investors to purchase that debt. It is a balancing act with the needs of the government on one side and the willingness of investors on the other side. If investors believe that the government is not maintaining proper stewardship of the currency, they will not invest. Then the value of the currency falls and interest rates must rise to attract investors (encourage them to take the additional risk).

How does the government issue Treasury debt?

They hold regularly scheduled treasury auctions on a range of maturities. There has been a lot of such activity in recent months.

On a side note, and forgive my ignorance, this may be a stupid question....
You say the Fed can "theoretically support" the treasury market. Now I may be misunderstanding the meaning of this graph since I am not an expert....but the Fed's support of the treasury market seems more than theoretical. According to wikipedia the Fed is large holder of treasury securities.

This is not what I term "support" of the Treasury in the context that we have been defining. The treasuries held by the Fed in its portfolio are its principle asset (leaving aside the modest amount of Gold stock). These treasuries back the outstanding currency (FRNs). When more currency is required (a must over time in a fiat currency system with a growing economy), treasuries must be purchased and held by the Fed. And as I mentioned earlier, the Fed had been (up until September) selling treasuries from its portfolio to sterilize the reserve injections from its various lending/recapitalization programs with the banks. This means that we have a lot of outstanding currency that is no longer backed by treasuries, but backed by assets the Fed took as collateral for these loans.

Brian