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I could agree with the last part.

...since Federal Reserve Banks return all income above operating costs to the Treasury account and presently hold more than enough Treasury bonds to cover their costs, the interest rate does not matter...

When the Fed buys the bonds directly from the Treasury ~ which would be a change to current policy but not unprecedented ~ it actually is the government paying for important needs without financing through debt. One arm of the government "owes" interest to another arm of the government that is required to hand the interest right back again ...

Could you elaborate here further? Who decides the operating costs, in what paper are they paid? If the interest rate does not matter, why it is there?

Do you mean, the Fed is a government arm without profit interests? What is the current policy?

by das monde on Thu Oct 14th, 2010 at 06:06:41 AM EST
[ Parent ]
As in any bank, operating costs are essentially fixed costs -- what it costs to manage the buildings, shredders, salaries of employees, security, overhead, etc., just like in any other business or government office.  It costs only trivially more to have a portfolio of $1 billion than it does to have a portfolio of $1 trillion, so this means that operating costs are not a relevant consideration for determining the size of a central bank's portfolio.

The Fed is a government arm which earns interest on its portfolio, but it is required to hand over all of its net profits to its real "owner," the US Treasury, so when the Fed owns government debt, regardless of how the Fed ended up with that debt in its portfolio, it is really just the US Treasury owing itself debt and paying itself interest.

That the Federal Reserve Banks technically have "shareholders" is not in any way similar to the way private corporations have shareholders.  The shareholding in the Fed refers to how banks are equitably charged (aka taxed) for the services of being regulated by the Fed and for having access to Fed lending, not to any "shares" in profits or to control over monetary policy in any way. National banks must pay the Fed, partly through a through a membership fee system, in order to be regulated by the Fed.

This means that US federal debt held by the Fed is really not debt at all.  The Fed could just declare that the debt no longer existed and nothing would happen. (And the reportedly high US debt to GDP ratio would fall from something over 90% to around 60%. Another word for this is "monetizing" the debt.) The reason the Fed doesn't do this is the belief that it needs an institutional means independent of Treasury or Congress to quickly take cash out of the financial system if inflation becomes a problem, and it does that by selling its federal debt holdings to the public in exchange for the public's cash, which is simply shredded when it arrives at Fed branches.  (Don't worry, they'll just print more if a bank needs more notes and sells Federal securities back to the Fed in exchange for cash.)

by santiago on Thu Oct 14th, 2010 at 12:46:09 PM EST
[ Parent ]
I didn't realise that Treasuries held by the Fed counted towards the sovereign debt. Does it work that way in all OECD countries, or are some places more sensible about aggregating the public sector?

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Oct 14th, 2010 at 01:43:54 PM EST
[ Parent ]
That's a good question. I recently asked a Swedish banker if that was the case in Sweden or other European countries, and he didn't think it was.
by santiago on Fri Oct 15th, 2010 at 02:33:40 PM EST
[ Parent ]
I checked the page of the national debt office (Riksgälden) that handles the swedish national debt.

In the measurement of the unconsolidated debt, debt owned by government agencies is counted as debt, while in the measurement consolidated debt, debt owned by other government agencies is not counted as debt.

From that page, the international comparisons within the EU is based on the consolidated debt of the public sector, ie the consolidated debt of local, regional and national government.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Fri Oct 15th, 2010 at 04:20:54 PM EST
[ Parent ]
That sounds like the situation in the USA between Federal public debt, state public debt and municipal public debt. But all of these appear to be dwarfed by private sector debt, and most of the holders of debt don't have the same options as the Treasury and Fed. So if states, municipalities, corporations, private companies and individuals are to get out of debt they can only do so if either the Federal debt expands or they can export at a profit.

But debt that was based on counterfeit assets should be considered to be counterfeit debt and should be written down in a default like resolution. Even with such debt write-down, which had largely occurred during the Great Depression of the 1930 in the USA by 1933, government spending was still all that kept the system going -- really until after WWII.

Social perception and solidarity combined with government coercion via rationing and price controls during the war led to a large savings due to War Bonds and huge pent up demand that spurred a recovery that lasted until the wind-down from Viet Nam. And that recovery worked in the context of a quasi-gold standard, but the USA had the only large, intact economy left after the war.

This time the US Government has done all that it can to prevent the write down of bogus debt and devoted all efforts to propping up the vampire financial sector that is currently extracting ~$700 billion/yr from the productive and consumer economy, thanks to policies and regulatory forbearance, such as the Zero Interest Rate Policy or ZIRP combined with voracious interest rates and fees on individuals by the banking sector and the ability of TBTFs to borrow at zero and "invest" at whatever.

Were that $700 billion/yr injected into the base of the economy via infrastructure projects, increased benefits to retirees and unemployed, etc. And were policies, regulations and tax laws revised to favor domestic manufacturing, the real economy could start to recover.

Neither will the economy will recover with steadily rising energy costs, so investments in renewable energy would make possible a future in an environment of >$120/bl oil prices, which seems assured in any but a global collapse scenario. So renewable energy generation and both goods and passenger transportation via renewable energy both would help the economy recover from collapse and make a future possible in a post peak oil world.

The problems are more political than technical or resource constrained. Resource constraints can be dealt with if the power of economic incumbents can be overcome.    

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Oct 16th, 2010 at 01:27:48 PM EST
[ Parent ]
... not for profit chartered banks. Their shareholders are their member banks (as the owners of a credit union are the credit union members).

Under their charter, substantial elements of their operations are under the governance of the Federal Reserve Board of Governors, who are nominated by the President and in an earlier, more innocent age confirmed by the Senate for seven year terms, one appointed each year.

The interest rates on Treasury bonds matter when the bonds are held by the public or the finance sector. At that point, the interest is in effect a transfer payment to the wealthy because they are wealthy.

The interest rates on Treasury bonds do not matter for those bonds held by the Federal Reserve Banks, since they are not-for-profit under their charters, and so a higher interest rate just results in a paper transaction of reserves from the Treasury account being transferred to the Fed operating account and then rebated directly back.

That's why the Fed buying newly issued bonds is referred to as monetising the debt.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Thu Oct 14th, 2010 at 06:31:37 PM EST
[ Parent ]
Thank you and Santiago for explanations. Still confusing, those smooth phrases: what is the sense of earning a profit on government securities and returning it to taxpayers? What kind of debt is that? What is exactly monetized? What can the big bankers like Rothschilds say to the Fed?

Isn't it amazing how many ways or levels of understanding of the monetary system are there for "aha" grabs, vaguely suggested by various sources. How many are supposed to know that in all respects? Can't the public be informed better and more uniformly?

by das monde on Fri Oct 15th, 2010 at 06:11:13 AM EST
[ Parent ]
what is the sense of earning a profit on government securities and returning it to taxpayers?

It's a vestigial structure left over from the evolution of modern reserve banking. Back in the bad old days before modern central banks, private banks would band together on an ad hoc basis to guarantee liquidity and thereby prevent bank runs. Back in those days, the reserve banks (plural) were private institutions with their own balance sheets and membership criteria. Of course that didn't quite work, and after a couple of nasty banking panics with associated general industrial depressions, the sovereign clamped down and nationalised the reserve banks, creating the modern central bank system.

The institutions were never really streamlined, in no small part because obfuscation of the fact that the central bank is a part of the public sector makes regulatory capture easier for the people the central bank is supposed to regulate.

What kind of debt is that?

One that is operationally meaningless but politically useful for certain parties.

What is exactly monetized?

"Monetising sovereign debt" is just bankerspeak for issuing money directly in the form of legal tender, as opposed to issuing money in the form of sovereign bonds.

It's another vestigial term, from back in the bad old days of the gold standard, where governments had to borrow to fund deficit spending. When they borrowed from their central bank, they were said to monetise their debts.

What can the big bankers like Rothschilds say to the Fed?

In principle, nothing. In the real world, "when you retire from the Fed, we may have a lucrative consultancy for you that will not unduly strain your mental capacity. Assuming we can still afford to pay for lucrative sinecures when you leave office <wink, wink; nudge, nudge>."

How many are supposed to know that in all respects?

One might expect central bankers to understand modern central banking. One would be wrong, though - central banks the world over are stuck in the conventional wisdom of the gold standard. Economists are supposed to understand central banking too, but of course most of the people who style themselves economists prefer to model a magic Ricardian pony world that contains neither money nor banks.

Can't the public be informed better and more uniformly?

Historical experience suggests that the answer to that question is "no."

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Oct 15th, 2010 at 07:38:45 AM EST
[ Parent ]
At this point I would be very interested in seeing the UK's full accounts, and discovering who has a claim on all of the alleged borrowing that we're supposed to dutifully pay down with the Worst Cuts Evah™.
by ThatBritGuy (thatbritguy (at) googlemail.com) on Fri Oct 15th, 2010 at 08:01:56 AM EST
[ Parent ]
Perhaps it is a composition comparable to the one provided by Guido Fawkes, for Anglo-Irish Bank, courtesy of Coleman.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Oct 16th, 2010 at 03:02:06 PM EST
[ Parent ]
Diary

By laying out pros and cons we risk inducing people to join the debate, and losing control of a process that only we fully understand. - Alan Greenspan
by Migeru (migeru at eurotrib dot com) on Fri Oct 15th, 2010 at 08:49:13 AM EST
[ Parent ]
after a couple of nasty banking panics with associated general industrial depressions, the sovereign clamped down and nationalised the reserve banks, creating the modern central bank system.

It should be noted that this led directly to the first great "financialization" of the US economy, which crashed in '29, was reformed in '33 only to see those reforms dismantled in the '80s and '90s. It should also be noted that the Era of Private Banks came about because of the success of Andrew Jackson in preventing the renewal of the charter of the Second Bank of the United States, which was a glorified private bank. Jackson's constituents largely were and saw themselves as the victims of developing "financialization" which was operating to the benefit of the private owners of the Second Bank. We never really have devised a long term solution to provide a safe, socially beneficial banking system in the USA.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Fri Oct 15th, 2010 at 01:39:49 PM EST
[ Parent ]
Historical experience suggests that the answer to that question is "no."

Is there historic evidence of a serious educational attempt? Or wouldn't the knowledge be too valueable to be shared with everyone?  

by das monde on Mon Oct 18th, 2010 at 03:55:12 AM EST
[ Parent ]
It's hard enough to get people to understand the fairly straightforward concept of countercyclical spending (something that works even under a gold standard, and even under most of the less crazy marginalist models). People seem to believe that when the sovereign takes in a lot of money, it can afford to spend a lot of money, and when the sovereign takes in little money, it cannot afford to spend a lot of money... irrespective of the fact that these states are more often than not correlated to a bubble in the private sector and a significant underutilisation of economic capacity, respectively.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Mon Oct 18th, 2010 at 05:27:11 AM EST
[ Parent ]
I would not be surprised if there has been (and still there is) more aggregate effort to obscure these issues than explain. The Foxnews heads just have more explanatory authority than us.

Even when it come to education in general, forceful regression is almost non-controversial.

by das monde on Mon Oct 18th, 2010 at 06:05:02 AM EST
[ Parent ]
... is that the Fed buys and sells Treasury securities on the secondary market to inject or drain reserves from the system and regulate the cash rate (cost of funds to banks), and the interest is what makes the private market for the Treasury securities.

The interest is handed back when the Treasury securities are in the hands of Fed. That is called "monetising" the debt because when when the Fed acquires additional Treasury securities, that is accounted as an asset, and the FRB can increase its liabilities by an equal amount, which is the creation of new Federal Reserves. So the debt basically goes back inside the fourth, oddly organized, branch of government and is replaced by high power money that can circulate as cash or be leveraged by commercial banks into ten to twenty times as much bank account money.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Oct 15th, 2010 at 10:34:18 AM EST
[ Parent ]

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