Under Fed Chairman Ben Bernanke, the Fed has been the great enabler of Washington’s fiscal excesses of the past few years. The Fed’s quantitative easing blurs the line between fiscal and monetary policies. The Fed may still be politically independent, but fiscal policy has become very dependent on the willingness of the Fed to purchase lots of government securities. A consolidated statement of the US Treasury and the Fed would show that $1.7 trillion of US government debt, which is held at the Fed, is costing the government only 0.25%.
In yesterday’s WSJ, Jon Hilsenrath reported that the FOMC is likely to vote for QE4 when the committee meets on December 11-12. In September, the FOMC implemented QE3, i.e., an open-ended commitment to purchase mortgage-backed securities at the rate of $40 billion per month. The Fed’s Operation Twist is scheduled to terminate at the end of the year. Under this program, the Fed purchased $45 billion a month in long-term Treasuries, paying for them with the proceeds from its holdings of short-term debt.
Now some members of the FOMC are pushing for more purchases of Treasury bonds. However, the Fed is running out of short-term securities to sell. Hence, QE4! As Hilsenrath observes:
“The Fed has run down its stockpile of the short-term Treasurys to sell to fund long-term purchases. To keep buying the long-term bonds it would need to fund the purchases by creating new bank reserves, which in effect is printing money. That is how the Fed has funded previous Treasury purchase programs and how it is funding the mortgage-bond buying. Though critics say this could be especially inflationary, many Fed officials believe they can manage the reserves without risking inflation.”
Even more generous than the Fed have been foreign central banks. Their holdings of US Treasuries rose to a record $2.9 trillion during the week of November 7.
Let’s face it: A deal to fix the fiscal cliff won’t fix our structural deficit problem. Washington will probably avert the cliff, but continue to run insane deficits. The Fed and other central banks will continue to enable this insanity by purchasing lots of US Treasuries. Eventually, this may lead to inflation. However, the more likely scenario is that our kids will be buried under all the debt that we are leaving them. We may get a stay of execution, but the next generation won’t.
Today's Morning Briefing: Fiscal Facts & Fantasies. (1) Death row and the cliff. (2) When Harry met John. (3) Beige Book is blue about cliff. (4) There’s a not-so-grand bargain in the works. (5) Tax the rich! Many are Democrats. (6) Another apocalypse-postponed rally ahead. (7) The Treasury bond crop never fails. (8) Averting the cliff should boost growth and narrow the deficit. (9) Believe it or not: Federal spending flat for over 3 years. (10) Here comes QE4 on top of QE3. (11) Sticking it to the next generation. (More for subscribers.)