Fed Turns Over Record $78.4 Billion Profit to Treasury
Posted by WARREN MOSLER on January 10th, 2011
And not even a hint they removed even more than that much interest income from the private sector.
(the $78.4 billion is after expenses)
Fed Turns Over Record $78.4 Billion Profit to Treasury
By: Reuters
The Federal Reserve reported Monday its earnings jumped by more than 50 percent in 2010 to a record $80.9 billion on its massive holdings of securities, and it is turning the bulk of it over to the U.S. Treasury Department.
The $78.4 billion that the Fed is remitting to Treasury is also a record and is $31 billion more than a year earlier. In 2009 the Fed had net income of $53.4 billion.
The Fed’s portfolio has ballooned to $2.16 trillion, roughly triple its size before the financial crisis, as it purchased securities including U.S. government debt and mortgage-linked bonds in a move to drive down borrowing costs and stimulate the economy.
“The increase was due primarily to increased interest income earned on securities holdings during 2010,” the U.S. central bank said in releasing preliminary unaudited results.
Audited results will be issued in the spring and may show some changes, Fed officials indicated.
After driving overnight interest rates close to zero percent in December 2008, the Fed bought $1.7 trillion of longer-term Treasury and mortgage-related bonds as a supplement to its pledge to keep overnight rates near zero for a long time.
It followed that up late last year with a new $600 billion bond-buying program — again intended to spur growth by pumping liquidity into the economy. That program ends at mid-year.
The Fed turns over profits to the Treasury annually and has never posted a loss. But the central bank took a number of extraordinary actions during and after the 2007-2009 financial crisis that critics say may have left it with some poor-quality holdings.
Doubts on All Sides
Critics fault the Fed on several scores, with some claiming its actions have sown the seeds for a potential flare-up in inflation and others saying it has put the central bank at risk of destabilizing losses when it sells down its holdings.
If credit losses were to pile up, those criticisms could mount.
In addition, some foreign governments have charged that the Fed’s easy money policies could weaken the dollar and spark a round of competitive currency devaluations.
Fed officials who briefed reporters said asset sales would be part of a so-called “exit strategy” from loose monetary policy, but only once the economy was on a sound footing. That means sales of the securities may be some way down the road, they added.
A Fed official said that if the central bank had to make sales and take some losses, it could always scale back the amount it remits to the Treasury. But there is no mechanism in place for it to get past remittances returned by the Treasury.
In testimony to Congress on Friday, Fed Chairman Ben Bernanke gave no sign the Fed was ready start scaling back its bond purchase program.
Nor did the Fed chief give any hints about further buying beyond the June deadline for the $600 billion program.
The Fed said its 2010 income included $76.2 billion in income on securities bought through open market operations, including Treasury and mortgage-linked debt, $7.1 billion from limited liability companies created in response to the financial crisis, $2.1 billion in interest income from credit extended to American International Group and $1.3 billion of dividends on preferred interests in AIA Aurora and ALICO Holdings.
January 10th, 2011 at 7:56 pm
Warren,
I just need some clarification on the MMT position on this. Bill Mitchell says the govt should stop issueing debt to cover deficit spending (let reserves build). You advocate a 0 rate policy. Combined would mean zero net interest income for the private sector. Your statement above sounds like it is a bad thing that the private sector is losing interest income from the govt. Is this just a case of the govt needs to net spend more so you will take it anyway you can (via interest payments)?
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Tom Hickey Reply:
January 10th, 2011 at 8:28 pm
Interest goes to savers. In a liquidity trap like we are in, the problem is that funds are not circulating fast enough, i.e., velocity is too low, since money is being hoarded in expectation of lower prices.
Fed policy that results in taking interest from nongovernment can be viewed as recycling, since the Fed earning go to reduce the deficit, which creates political space for welfare spending and the multiplier of welfare spending far exceeds that of interest. So it isn’t dumb or deflationary as long as that money gets spent back into the economy lower down, since what is needed at this juncture is trickle up.
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WARREN MOSLER Reply:
January 10th, 2011 at 9:54 pm
problem is, without that 78 billion they wouldn’t be spending more, they’d just be happy about the deficit being lower.
my take is with a 13T federal ‘debt burden’ they aren’t about to run out and net spend more because the fed took in 78 billion.
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Tom Hickey Reply:
January 10th, 2011 at 11:37 pm
Unfortunately, that is true. They are concerned with lowering the deficit since they are clueless.
WARREN MOSLER Reply:
January 10th, 2011 at 9:49 pm
with a 0 rate policy the federal deficit needs to be larger than otherwise, which is a good thing.
it means for a given size govt, taxes can be that much lower.
for a given size govt i’d rather have low rates and low taxes, rather than higher rates and higher taxes
but that’s just my personal opinion
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ESM Reply:
January 11th, 2011 at 9:49 am
I think that’s more than just a personal preference. Low rates and low taxes probably means greater economic efficiency than the alternative, don’t you think? Are there serious arguments in favor of higher taxes and higher rates?
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Matt Franko Reply:
January 11th, 2011 at 1:07 pm
ESM,
Those to me are sort of the arguments the ‘deficit doves’ are making, and WM identifies these folks as a significant political obstacle. At least they argue the higher taxes (‘for the rich’) part. Resp,
WARREN MOSLER Reply:
January 11th, 2011 at 2:56 pm
when someone wants to tax the rich, the obvious question is ‘why?’
when the answer is to get money for the govt to balance the budget or spend, during a period of a massive output gap, that doesn’t cut it
when the answer is social engineering as a political choice, I at least respect that opinion but even in that case the proposed tax hikes should have (even larger) agg demand adds along with it.
Tom Hickey Reply:
January 11th, 2011 at 1:24 pm
Seems that size and rates are determined by functional finance wrt maintaining price stability? Targeting is determined by multipliers as well as incentives?
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January 10th, 2011 at 9:14 pm
“And not even a hint they removed even more than that much interest income from the private sector.”
The interest income is removed, but it was paid for at par by the Federal Reserve, right?
So, more USD is returned to the non-government sector. Or am I missing something?
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Jim Baird Reply:
January 10th, 2011 at 9:49 pm
The securities themselves were paid for at market value by the fed – so the buying of the securities didn’t add or subtract from the NFA of the private sector. But since the Fed now owns them, the interest income that would have gone to the private sector now stays entirely within the consolidated government sector, FED + Treasury. Like Warren says, it’s like a $$78 billion tax increase that nobodies talking about…
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WARREN MOSLER Reply:
January 10th, 2011 at 9:56 pm
yes, see my posts on QE on this website.
the fed buying securities is best thought of as an equal exchange of financial assets. they buy securities and pay for them with reserve balances. both are financial assets, and both are govt liabilities. the seller of the securities isn’t richer or poorer for the sale.
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January 10th, 2011 at 10:12 pm
Included in the “expenses” is a quaranteed 6% dividend paid to member banks on capital stock, although I suppose that could/would be considered as a net credit to the private sector.
From a previous annual report:
Capital Paid-in
The Federal Reserve Act requires that each member bank subscribe to the capital stock of the Reserve Bank in
an amount equal to 6 percent of the capital and surplus of the member bank. These shares are nonvoting with a
par value of $100 and may not be transferred or hypothecated. As a member bank’s capital and surplus changes,
its holdings of Reserve Bank stock must be adjusted. Currently, only one-half of the subscription is paid-in and
the remainder is subject to call. A member bank is liable for Reserve Bank liabilities up to twice the par value
of stock subscribed by it.
By law, each Reserve Bank is required to pay each member bank an annual dividend of 6 percent on the paid-in
capital stock. This cumulative dividend is paid semiannually. To reflect the Federal Reserve Act requirement
that annual dividends be deducted from net earnings, dividends are presented as a distribution of comprehensive
income in the Statements of Income and Comprehensive Income.
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roger erickson Reply:
January 11th, 2011 at 3:23 pm
fascinating; really just a relic of the gold std days?
no FDIC-covered bank today should have any reserve or capital requirement at the FED at all?
(and, they should not be easily able to convert from an investment bank to an FDIC-chartered bank!
recent events prompted more than a suspicion that GS et al have political, not just financial purpose)
fiscal & monetary policy can accommodate any amount of public purpose, but some independent mechanism has to keep politics honest as well – otherwise all bets are off!
these are simultaneous requirements, not either/or
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January 11th, 2011 at 6:40 am
If you needed proof that even some of the traders at the fed don’t understand what it”s all about:
http://www.nytimes.com/2011/01/11/business/economy/11fed.html?hp
““We are looking to get the best price we can for the taxpayer,” said Mr. Frost, a buttoned-down 34-year-old in a striped suit and rimless glasses.
Whether Mr. Frost will reach that goal is uncertain. What is sure is that market interest rates have risen, rather than fallen, since the Fed embarked on the program in November. That is the opposite of what was supposed to happen, although rates might have been even higher without the Fed program.
Mr. Frost’s task is to avoid paying top dollar for bonds that could be worth less when the Fed tries to sell them one day.”
in the words of Homer S.: do’oh!
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WARREN MOSLER Reply:
January 11th, 2011 at 7:32 am
also makes the point this program is doing its best not to be a transfer of wealth to the dealers…
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roger erickson Reply:
January 11th, 2011 at 3:34 pm
when the FED tries to sell bonds someday …
is anyone REQUIRED to buy them?
if none sold, would anyone care, ultimately?
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WARREN MOSLER Reply:
January 11th, 2011 at 6:16 pm
the fed buys and sells only from willing counter parties.
generally when they buy they just keep lowering the rate they will accept (raising the price they will pay) until they get sellers.
Matt Franko Reply:
January 11th, 2011 at 8:37 am
Jim,
Mike N. has posited that what the Fed is doing here could be similar to (in a commodity market analogy) a large commercial trader ‘buying on a scale down’.
From Steve Briese’s Committments of Traders Bible: “Although it is true that commercial traders typically buy at bargain levels, and sell at premium prices, you may not be able to afford every bargain, especially as they become bigger bargains. Commercials are negative-feedback traders; they typically buy on a scale down, and sell on a scale up. But they have double protection from the losses that can mount from holding a position through an adverse move. With the belt and suspender security of deep pockets and offsetting cash positions, commercials can add to a long position on a scale down(or a short position on the way up) with near impunity while margin calls are doing in lesser traders. Speculative traders enjoy other trading edges, but regardless of size, speculators have finite leverage limits. (Think LTCM, Tiger Funds, Amaranth Advisors..) For most of us, better results will accrue from buying the moment the commercials quit buying. It is rare to see commercials stop buying before prices hit a bottom.”
This may explain the big bond rally last year when the Fed ended the QE1. and now the sell off at the start of the QE2.
Mikes thoughts/post here:
http://mikenormaneconomics.blogspot.com/2010/12/is-feds-qe2-leading-bond-prices-down.html
Resp,
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January 11th, 2011 at 12:52 pm
“The securities themselves were paid for at market value by the fed – so the buying of the securities didn’t add or subtract from the NFA of the private sector. But since the Fed now owns them, the interest income that would have gone to the private sector now stays entirely within the consolidated government sector, FED + Treasury. Like Warren says, it’s like a $$78 billion tax increase that nobodies talking about…”
I am confused. I thought the money the Treasury gets back from the Fed is the interest the Fed charges on the Treasury’s money for that year. In other words…isn’t this just the way MMT works? Doesn’t this show in real terms just how much the Treasury spent this past year which is a good thing according to MMT?
As for the interest income for the private sector, I thought the Fed purchased and reverse-purchased securities only through banks much the same way they achieve the Fed Funds target rate. I thought all of that happened at the level of the Fed’s accounts with those banks and really wouldn’t effect the private sector since its only the banks that owned those securities and we are talking about reserves. I mean doesn’t the Fed buy/sell securities all the time anyway to set the Fed Funds Rate?
Also isn’t it true that the Fed’s expenditures do in fact contribute to the economy in real terms like salaries, services paid, utilities, infrastructure, etc. I mean it’s not like the Fed’s expenses live in a vacuum.
And finally what about the fact that the Fed does plan on re-introducing all the assets they have back into the economy at a later date?
Please help me to clarify. I don’t understand the issue here. I am probably seeing this all wrong or something. haha!!
Thank you and I love your work Warren!
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WARREN MOSLER Reply:
January 11th, 2011 at 2:53 pm
Yes, it can be thought of as the tsy paying interest on the bonds to the fed who gives it back to the tsy.
it’s a wash. no net tsy spending on interest for those bonds happened.
it’s the same as the tsy never selling the bonds in the first place (see prior post on qe)
but before the fed bought the bonds, the interest was paid to the private sector bond holders
the fed’s net expenditures do contribute. but in this case the net was a 78 billion profit which net removed that much income from the private sector
fed open market operations using securities only change private sector incomes by the amount of fed profits it turns over to the tsy.
supplying actual cash does some of that, adding to fed profits, for example
at a later date the reverse may happen, and will then alter agg demand accordingly
what happened is the private sector earned 78 billion less on its nfa’s than before the fed bought the bonds
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roger erickson Reply:
January 11th, 2011 at 3:56 pm
then regarding the “national debt”
the monetary ops position is to note that:
1) the tsy pays interest on the bonds to the fed, who then return that excess back to the tsy
2) which is the same as the tsy never selling the bonds in the first place
3) why we allow anyone else with FED reserves to also buy treasuries is a strange point,
a) all they get is a bit more fiat;
b) any interest they get is ultimately paid for by FED-held treasury interest, which goes back to the Treasury
(Feel like you just fell down a hole? Where’s Alice?)
just a complicated way of paying FED salaries to move LOTS of numerals around, & of confusing foreign reserve holders?
not to mention our own voters
most of it just sounds like habits left over from the brief gold-std days; like my mom’s ham recipe tuned to the size pans she had back then
people are a slave to habit & old recipes?
Even after a new oven is delivered, new cookware imported, and the structure of net food & heating costs is completely changed? Why are we even baking ham? It comes precooked and/or freeze-dried now. :)
[Why are we even eating hormone-laced ham? Organic farmed fish may be cheaper in the end?]
You can lead people to options, but you can’t make ‘em explore them?
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Tom Hickey Reply:
January 16th, 2011 at 12:24 pm
1. The larger the scale, proportionately more resources get soaked up providing command and control. Government gets larger for good reasons. In fact, the US government is much too small for effective oversight of complex matters like finance, as Bill Black laments. When the system gets large enough everyone is watching each other. :)
2. Not just the clown food. Modern agriculture aka agribusiness has resulted in soil depletion, causing many vitamin and mineral deficiencies. Norman Shealy, a neurosurgeon that invented TENS, has hypothesized that many modern illnesses, as well as aging, are the result of hormone deficiency, e.g., DHEA, due to low magnesium. DHEA, a T-precursor, drops precipitously with age. Shealy suggests avoiding the downside of hormone therapy or taking OTC hormones like DHEA by increasing Mg levels. Mg is not well-absorbed orally, so he uses injection in the office and recommends transdermal use of Mg “oil,” a highly saturated solution of magnesium chloride.
January 12th, 2011 at 1:32 am
thank you for you response Warren. That clears alot of that up for me now and makes more sense. :D
One question for you though…when the Fed buys/sells securities to hit their Fed Funds Target Rate are they buying private sector securities? I always thought those purchases went on at the Fed’s reserves accounts with the banks and therefore never “made it” to the private sector. But now I am not sure about that. If it did get to the private sector and the private sector was seeing an nfa loss, wouldn’t that be going AGAINST the inflationary stimulus a low Fed Funds Rate is trying to accomplish?
I thought QE2 was essentially functioning in the same way as the Fed Funds Rate purchases normally do (aka not in the private sector) and therefore making QE2 really an attempt at getting the Fed Funds Rate BELOW 0%-0.25% (hence more inflationary pressure and more growth stimulus, etc.).
Am I misunderstanding how QE2 and/or Fed Fund Rate purchases work? Sorry to ask you another question here but I just love this stuff and almost “have to know”!! haha!!
Thank you again and be well!
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WARREN MOSLER Reply:
January 12th, 2011 at 6:33 am
with excess reserves, the fed is using the interest paid on those reserves rather than open market operations, for the most part
but when they do sell securities, they are ‘offsetting operating factors’ and giving member bank reserve balances alternative interest bearing account, and the reverse when the buy secs. neither changes private sector nfa.
member banks are part of the private sector, and reserves and secs are both financial assets for them
does that help?
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Mario Reply:
January 12th, 2011 at 11:37 am
Yes that is helpful. But is the Fed Funds Rate set by manipulating the excess reserve interest or thru buying/selling secs., or both or neither? It sounds like you’re saying the FF rate is set by moving excess reserve interest while QE2 has been through open market operations.
It seems to me that although banks are part of the private sector, they surely have a VERY UNIQUE situation in that they have direct access to the Fed and to “money.” Would you agree with this? I mean what would happen if we all had accounts at the Fed? It would appear the banks are in a very interesting position in our economic framework. As you say, “neither buying nor selling secs changes private sector nfa” but at the same time they are still “financial assets” for the banks which are in the private sector. Banks are a weird hybrid of private/govt aren’t they?
Could it be that QE2 has been an attempt to avoid a bond bubble from popping? Could the Fed’s bond purchases back in Nov and throughout this time be an attempt to allow long bond traders (aka big banks/institutions) to exit their profitable positions with more assurance that there will be someone on the other end of the trade? Sure the Fed took that interest but how many bond traders profited on their long trades b/c the Fed bought from them? What if they just staved off a bond bubble from popping for the banks (again) and the interest was just the price for that? Is this something that fundamentally could be going on or am I just thinking in inaccurate ways?
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WARREN MOSLER Reply:
January 12th, 2011 at 2:27 pm
right, currently the interest paid on reserves is setting the floor as a point of logic.
qe adds more reserves as it removes securities, and the newly added reserves earn that same rate of interest.
so buying and selling securities at the moment doesn’t alter fed funds, just the term structure of rates some.
we all sort of do have accounts at the fed, as member banks are the fed’s designated agents, and their deposits can be used directly to pay taxes.
It’s not about the banks having access to money, it’s that their liabilities carry FDIC insurance and can be used to pay taxes.
and while the banks have access to ‘liquidity’ it’s in the context of being regulated such that their assets and liabilities are limited by capital rules and asset regulations. It’s nothing more than you or I getting a line of credit from a bank based on our net worth, with the lender regulating and supervising all we do to make sure we stay solvent.
I don’t think QE had anything to do with traders or a bond bubble. It was the Fed not wanting mtg rates, etc. to rise.
January 13th, 2011 at 2:15 am
Warren I can’t thank you enough. It’s finally making sense now! haha!!
So as I see it, they can fully manage the Fed Funds Rate (FFR) at 0-0.25% simply by just manipulating the excess reserve interest and therefore the buying/selling of secs does NOT enter into the effective Fed Funds Rate, b/c it doesn’t have to in order to maintain such a low FFR. I hope that’s accurate!! haha!!
Eventually though, when they raise the FFR, they will likely not be able to maintain it just by manipulating the excess reserves interest alone as they do now and that is when the buying/selling of secs (aka open market operations) will start to take place to maintain the target FFR. This would only ever effect private NFA if the Fed were to turn over profits to the Trsy, which likely would NOT be the case when handling the effective FFR, b/c that is an ongoing process…however as we’ve talked about here QE2 does effect private NFA, b/c they give that money back to the Trsy since they own the bonds and not the private sector.
I think I’ve got it now (I hope!). I am sure it is quite possible that I could be off here somewhere. haha!! None the less, I really do love this stuff so much…it’s just so fascinating and great to learn and to know about!! Thank you again.
I definitely agree with you on QE2 and the mortgage rates.
I also agree with you that the only real difference between us and the banks is that their lines of credit and liabilities are FDIC insured AND I would also add that they have a much greater potential for QE/government support. Yes they still do need to be solvent just like we do, but I also know that I do NOT have any possibility of my bank offering me any QE bailouts if I ever need it due to a bad business venture on my part–nobody insures MY liabilities FDIC-style!! They just take my collateral. That’s a big deal in my view! I mean if you only have liabilities at a certain time, what good is it that your assets are FDIC insured?!?! You feel me? However I do not think that this would change if we all had Fed accounts…if we all got QE whenever we were about to default we’d be in a deflationary trap forever it would seem and that is definitely not good nor sustainable! I do not think that if we all had Fed accounts that things would not be necessarily inflationary or deflationary though…I think it would be in flux just as it is now…no different, b/c people would still be taking out loans and they would still need to be solvent just like they do now with retail banks.
The real difference for the private sector if we all had Fed accounts would be that we would no longer have to pay “retail” interest rates at our local banks. Instead the public would have direct access to the “wholesale” interest rates that the Fed offers the banks now (but not us). Also what would likely happen is that all banks would go out of business b/c the Fed would out-compete them in the market for this very wholesale reason. That means the Fed would very likely have a banking monopoly in our economy and then we’d be at the “mercy” if you will of one bank and whatever loan rates they’d give us. Hypothetically a scary scenario but actually that’s essentially how it is now anyway! So really we’re just back again to the real difference being that we would pay “wholesale” for our loans rather than “retail.” The Fed would still remain solvent in such a business scenario offering “wholesale” loans to the public, b/c their expenses would still be paid for in the same way they are now…namely through the interest they charge the Treasury when the Treasury needs money to spend. After the Fed covers their expenses, the Fed gives all the other interest charges back to the Treasury so it’s all a wash there. Normal operations as usual and the public gets wholesale rates! Sounds good to me eh!?!? Investment banks could still exist of course, but loan-based banks probably not so much. The banks today of course need to charge “retail” loans so they can stay solvent themselves (they don’t get the Trsy interest charges like the Fed), but really we do not need the banks if we had the Fed directly! So there you go Warren, my revolutionary thoughts on how to change our society!! haha!! What do you think? Would it work?
Either way, THANK YOU WARREN for taking the time to teach me here and help me with my persistent questions. I really appreciate it and can’t thank you enough. I love this stuff so much! All the best to you and yours and keep up the great work!! :D
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WARREN MOSLER Reply:
January 13th, 2011 at 7:50 am
right on excess reserves, ff, except that the agencies don’t earn interest on their reserves, so that complicates it a bit for the fed, but the rate is so low now it’s moot for the moment.
and qe doesn’t actually help the banks any. in fact, it hurts their earnings, as they are ‘forced’ to keep more of their assets as reserves which earn little or no interest.
Yes, the Fed could do all kinds of things direct to the public, but instead they use their member banks to do it.
if they did it themselves they’d pretty much have to hire the same types of staff, etc. so the result wouldn’t be all that much different for us.
And their would be no competition for our business, etc. which some may not like, etc.
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Mario Reply:
January 13th, 2011 at 12:29 pm
great! The reserve interest rate must be at zero I guess which explains why they are getting no interest on their reserves (this is acting as another stimulus to increase lending I suppose), so the Fed is just moving the excess reserves around instead. Later on they will likely raise the reserve interest as well as the FFR to fight inflationary pressures once they materialize for the Fed. Awesome stuff man.
I wonder if the Fed is considering to raise the FFR once QE is finished in the summer. Maybe in the fall before the 2011 x-mas rally. It all depends on unemployment numbers though for Ben I think.
Good point on QE. Very interesting stuff QE is.
Yes if people hate the Fed now they sure would REALLY hate the Fed once they opened their doors and gave us all (hopefully) wholesale loan rates and out-compete the banks. People are so funny. haha!!
Thanks again. :D
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Jim Baird Reply:
January 13th, 2011 at 10:26 am
Having the Fed lend directly might work for bog-standard mortgages and the like. But for more complex stuff like business loans, the problem becomes that politics starts determining who gets loans and who doesn’t – and you also end up with bureaucratic rules aimed at preventing all losses, because “it’s taxpayer’s money”.
Having a (heavily regulated) private banking sector (that is banned from selling loans in the secondary market or any other funny stuff) provides you with at least one source of capital that has a heavy incentive to carefully look at business plans from a practical, not political perpective – and also to take some risks that a public sector institution just can’t take. As Warren says in his book, if you’re not taking some losses, you’re leaving money on the table.
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Mario Reply:
January 13th, 2011 at 12:35 pm
yeah I can agree with that for sure. Especially the heavily regulating private banking sector (loan versus investment bank) and banning CDS and OTC nonsense on the loan side. For sure! That should have been done yesterday!
And like Warren says above, if the Fed did reach to the public directly, the employee/staff/operation costs would likely cause them to raise their wholesale rates so it’s really no different than now.
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