In Part 1 of this mini-series – When relations within government were sensible – the US-Fed Accord – Part 1 – I examined the pre-1951 agreement between the US Treasury department and the US Federal Reserve Bank, which saw the bank effectively fund the US Treasury. The nature of that relationship, which began when the central bank was formed in 1913, changed in 1935 when the legislators voluntarily chose to change the capacity of the currency issuer to buy unlimited amounts of US Treasury debt directly to one of only being able to purchase the debt in the secondary markets once issued. But the effect was the same. The central bank could control the yields at any segment of the bond maturity curve at its will. The shift in 1935 was the result of conservative forces that were intent on derailing the government’s capacity to use the consolidated central bank/treasury to efficiently advance well-being. They wanted political constraints placed on the Treasury, such that it would have to issue debt to the non-government sector before it could spend, which they knew was an arrangement (similar to formal debt ceilings) that could be used to pressure the government towards austerity. By the time the Korean War ensued, these conservative forces were winning the political debate and big changes were to come, which would limit the fiscal capacity of the US government to this very day. The result has been an inefficient fiscal process prone to capture by conservatives and certainly not one that a progressive would consider to be sensible. I analyse that shift post-1942 in this blog, which is Part 2 in the series. In Part 3, we pull the story together and reveal what was really going on.

There was an article in the Financial Times last week (August 16, 2017) – Central banks hold a fifth of their governments’ debt – which seemed to think there was a “challenge” facing policymakers in “unwinding assets after decade of stimulus”. The article shows how central banks around the world have been buying huge quantities of government (and private) bonds and holding them on their balance sheets. Apparently, these asset holdings are likely to cause the banks headaches. I don’t see it that way. The central banks, in question, could write the debt off any time they chose with no significant consequence. Why they don’t is the question rather than whether they will become insolvent if the values crash (they won’t) or whether the yields will skyrocket if they sell them back into the non-government sector (they won’t). Last week (August 15, 2017), the US Department of Treasury and the Federal Reserve Board put out their updated data on Foreign Holders of US Treasury Securities. Other relevant data was also published which helps us trace the US Federal Reserve holdings of US government debt. Overall, the US government holds about 40 per cent of its own total outstanding debt – split between the intergovernmental agencies (27.6 per cent) and the US Federal Reserve Bank (12.4 per cent). In some quarters, the US central bank has been known to purchase nearly all the change in total debt. That folks, is what we might call Overt Monetary Financing and the sky hasn’t fallen in yet as a consequence.