Category Archives: Fed

Re: Will the Fed Issue Debt?

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Paying interest on reserves is functionally identical to issuing debt.

The difference would just be the different maturities.

This could be used to support higher short term rates, if that’s what they want.

Lots of CB’s have done this.

>   
>   On Thu, Dec 11, 2008 at 12:50 AM, Scott wrote:
>   
>   I hope all is well down under. This is interesting!
>   

BOTTOM LINE: News reports indicate that Fed officials may be considering issuing debt. At this stage, we do not know how credible this is. They certainly do not need this to expand their balance sheet but may be motivated either by perceptions that existing options (reserve expansion) are too inflationary or by plans to acquire longer-term risky assets. The idea is not without risk as the existence of Federal Reserve debt would provide the basis on which markets could then take positions on the solvency of the central bank.

MAIN POINTS:

1. According to news reports, Fed officials are considering issuance of debt as an alternative way of expanding their balance sheet. Apart from the fact that these reports have appeared in several places, which often signals that they have some basis, we do not know if Fed officials are seriously considering this alternative. If they are, we think they would need Congressional authorization before proceeding and suspect they would seek it even if they did not think it necessary from a legal standpoint.

2. The idea is a bit puzzling as the Fed already has an effective means of expanding its balance sheet without limit by creating reserves. For example, if officials want to increase the size of an existing liquidity facility or create a new one, all they have to do is extend a loan in one of these facilities and credit the reserve account of the bank that borrows the funds. (If the counterparty is not a bank, then the Fed can provide the funds as Federal Reserve notes – i.e., “print money”). In normal circumstances this would push the federal funds rate down, which officials might not want to do, but currently the effective funds rate is so close to zero that this would not seem to be a significant consideration.

3. So why consider the alternative of issuing debt? We can think of two motivations:

a) Fed officials are uncomfortable with the speed with which the monetary base (bank reserves plus currency in circulation) has expanded over the past two months, either on their own account or because the public may see this as creating a huge inflation problem down the road. In the week ended December 3, the monetary base was $1.47trn; three months earlier it was $843bn. However, in our view this is a misguided concern for a couple of reasons:

i) At a time when concerns about deflation are mounting, Fed officials should want the public to see its current liquidity program as inflationary, to prevent such concerns from translating into expectations that prices will fall in a broad-based and sustained fashion.

ii) Such concerns usually take as an implied premise that the liquidity will be difficult to remove – in essence that the Fed will find itself on a razor’s edge of having to withdraw massive amounts of liquidity in a very short period once the economy starts to improve. This is highly unlikely in our view. By our reckoning, the output gap is already 4% of GDP (unemployment is about 2 points above the natural rate, and each point is worth 2% of GDP) and likely to go much higher before the economy starts to grow at a trend rate. This should give the Fed plenty of time to put its balance sheet back in order before inflation becomes a genuine risk.

Moreover, as the economy starts to improve, the excess liquidity should unwind on its own, as banks’ needs for liquidity facilities diminish in a natural fashion and the Fed begins to raise the federal funds rate target.

b) The other possible motivation is to lay the financing groundwork for large-scale direct purchases of longer-term risky assets, such as private-label mortgages and corporate bonds (which would also require congressional approval). If this is the motivation, then one implication is that the debt would be long-term in nature (again, we have no way of knowing what officials themselves are thinking in this regard). The idea would be such financing might need to be in place long after the liquidity facilities have been unwound, as the assets thus acquired take time to mature or be sold back into the private markets.

4. If the Fed were to issue debt, some interesting questions and possible unintended consequences arise, which we simply raise at this point for further discussion: (a) how would Fed debt stand relative to Treasury debt of comparable maturity? Would it be senior, junior, or pari passu? (b) would it be subject to some limit, as the Treasury’s debt is, and if not could this facilitate a situation in which some programs currently authorized for the Treasury (like TARP) would effectively be financed by comparable operations undertaken by the Fed? (c) if Fed debt does come into existence and begin to trade in the markets, prices on such debt (and on the inevitable CDS to be based on it) would allow the markets effectively to trade on the credibility of the central bank. It is not obvious to us that Fed officials would really want this to happen.


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Bernanke on the swap lines

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Last week’s swap line number reported by the Fed was down to $521 billion from $608 billion. While still a very large number, it is coming down, and hopefully will continue to do so.

However, the continued fall in commodities prices, particularly crude oil, means dollars are ‘harder to get’ for the foreign sector, as they must export more product to the US for the same amount of dollars. And with the US consumer weakening, obtaining $US via exporting to the US will be that much more problematic.

Here is what Chairman Bernanke said yesterday about the swap lines.

Federal Reserve Policies in the Financial Crisis

In our globalized financial markets, the provision of dollar liquidity has international as well as domestic aspects. To improve dollar funding conditions in important foreign markets, the Federal Reserve has approved bilateral currency swap agreements with 14 foreign central banks. Swap facilities allow each of the central banks involved to borrow foreign currency from the other; in this case, foreign central banks such as the Bank of Japan, the European Central Bank, the Bank of
England, and the Swiss National Bank

And the Bank of Mexico, and other lesser CB’s.

have borrowed dollars from the Federal Reserve to re-lend to banks in their jurisdictions.

Yes, it’s a case of $US loans to foreign governments.

This is functionally no different than the Fed buying, for example, Mexican $ bonds.

Because short-term funding markets are interconnected, the provision of dollar
liquidity in major foreign markets eases conditions in dollar funding markets globally, including here in the United States.

Yes, that is true.

Lending to those less credit worthy does decrease their demand to borrow USD.

And that’s exactly the reason the Fed is lending virtually unsecured to lesser credits- to get interest rates down?

On a risk/reward basis this makes no sense to me.

There are far less costly ways to get USD LIBOR down.

Importantly, these swap arrangements pose essentially no credit risk because our counterparties are the foreign central banks themselves, which take responsibility for the extension of dollar credit within their jurisdictions.

So lending to the Bank of Mexico poses no credit risk?

And the ECB is shell company not guaranteed by the national governments.

And they’ve been criticizing the banking industry for poor underwriting criteria- this is far, far worse.

And would Congress approve the purchase of foreign USD bonds solely as a means to lower USD LIBOR? Is Congress aware that the Fed is authorized to do this?

Hopefully we get lucky and all the central banks politely pay us back.


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Krugman on deficits

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Deficits and the Future

By Paul Krugman

Right now there’s intense debate about how aggressive the United States government should be in its attempts to turn the economy around. Many economists, myself included, are calling for a very large fiscal expansion to keep the economy from going into free fall.

Sounds good.

Others, however, worry about the burden that large budget deficits will place on future generations.

OK.

But the deficit worriers have it all wrong. Under current conditions, there’s no trade-off between what’s good in the short run and what’s good for the long run; strong fiscal expansion would actually enhance the economy’s long-run prospects.

No, under any conditions coincident with a shortage of aggregate demand.

The claim that budget deficits make the economy poorer in the long run is based on the belief that government borrowing “crowds out” private investment — that the government, by issuing lots of debt, drives up interest rates, which makes businesses unwilling to spend on new plant and equipment, and that this in turn reduces the economy’s long-run rate of growth. Under normal circumstances there’s a lot to this argument.

Not true. There is never anything to this argument.

But circumstances right now are anything but normal. Consider what would happen next year if the Obama administration gave in to the deficit hawks and scaled back its fiscal plans.

Would this lead to lower interest rates? It certainly wouldn’t lead to a reduction in short-term interest rates, which are more or less controlled by the Federal Reserve. The Fed is already keeping those rates as low as it can — virtually at zero — and won’t change that policy unless it sees signs that the economy is threatening to overheat. And that doesn’t seem like a realistic prospect any time soon.

What about longer-term rates? These rates, which are already at a half-century low, mainly reflect expected future short-term rates. Fiscal austerity could push them even lower — but only by creating expectations that the economy would remain deeply depressed for a long time, which would reduce, not increase, private investment.

Both true.

The idea that tight fiscal policy when the economy is depressed actually reduces private investment isn’t just a hypothetical argument: it’s exactly what happened in two important episodes in history.

The first took place in 1937, when Franklin Roosevelt mistakenly heeded the advice of his own era’s deficit worriers. He sharply reduced government spending, among other things cutting the Works Progress Administration in half, and also raised taxes. The result was a severe recession, and a steep fall in private investment.

Yes, taxes were raised to pay for the new social security program and kept off budget. After the immediate economic setback they changed the accounting and put social security taxes on budget where they remain today. The lesson of public accounting for the government was and is that it best serves public purpose when it’s on a ‘cash basis’.

The second episode took place 60 years later, in Japan. In 1996-97 the Japanese government tried to balance its budget, cutting spending and raising taxes. And again the recession that followed led to a steep fall in private investment.

Yes, they kept pushing consumption taxes that set them back.

Just to be clear, I’m not arguing that trying to reduce the budget deficit is always bad for private investment. You can make a reasonable case that Bill Clinton’s fiscal restraint in the 1990s helped fuel the great U.S. investment boom of that decade, which in turn helped cause a resurgence in productivity growth.

No you can’t. The deficits of the early 90’s recession fueled the subsequent expansion, and the resulting surplus killed it, and we are still feeling the effects of those surplus years today.

What made fiscal austerity such a bad idea both in Roosevelt’s America and in 1990s Japan.

And the US in the late 90s- he conveniently bypasses that one?

were special circumstances:

No, fiscal austerity necessarily reduces aggregate demand.

in both cases the government pulled back in the face of a liquidity trap, a situation in which the monetary authority had cut interest rates as far as it could, yet the economy was still operating far below capacity.

Yes, because monetary policy- changing interest rates- doesn’t actually work as theorized by the mainstream.

And note that in the last year interest for savers has come down about 4% while interest charges for borrowers are about unchanged, or, in many cases, higher, as the spreads widened as the Fed cut rates. And in any case the non government is a net saver/net receiver of interest payments to the tune of the government’s outstanding treasury securities. So the largest consequence of last year’s rate cuts has been a cut in private sector interest income.

And we’re in the same kind of trap today — which is why deficit worries are misplaced.

At least he gets to the right place, even if it is via faulty logic.

One more thing: Fiscal expansion will be even better for America’s future if a large part of the expansion takes the form of public investment — of building roads, repairing bridges and developing new technologies, all of which make the nation richer in the long run.

Yes.

Should the government have a permanent policy of running large budget deficits? Of course not.

Why not, if demand is chronically weak, which it has been for a long time.

Although public debt isn’t as bad a thing as many people believe —

True!

it’s basically money we owe to ourselves —

Wrong reason :(

in the long run the government, like private individuals, has to match its spending to its income.

Wrong. He misses the difference between issuers of non convertible currencies with uses of those currencies.

The funds for us to pay taxes to come from government spending (or government lending). So government is best thought of as spending first and then collecting taxes or borrowing.

And every dollar of cash in circulation has to be from government deficit spending- funds spent but not yet collected for payment of taxes.

Etc.

Rookie mistake for a Nobel Prize winner not to see the difference between issuer and user of anything.

But right now we have a fundamental shortfall in private spending: consumers are rediscovering the virtues of saving at the same moment that businesses, burned by past excesses and hamstrung by the troubles of the financial system, are cutting back on investment.

Yes!

That gap will eventually close,

Not without sufficient deficit spending.

but until it does, government spending must take up the slack. Otherwise, private investment, and the economy as a whole, will plunge even more.

Yes!

How about a payroll tax holiday where the treasury makes the FICA payments for employees and employers, along with maybe $300 billion to the states for operations and infrastructure projects?

he bottom line, then, is that people who think that fiscal expansion today is bad for future generations have got it exactly wrong. The best course of action, both for today’s workers and for their children, is to do whatever it takes to get this economy on the road to recovery.

And keep it there.

Doesn’t he know about the ongoing ‘demand leakages’ taught in the text books? Tax advantaged pension funds, IRAs. insurance, and other corp reserves, etc. That grow geometrically (most years)?

And that’s why the full employment deficit is something like 5% of GDP, etc?

(If anyone knows Professor Krugman feel free to email this to him, thanks)


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Re: Wall St. Journal OpEd piece by Christopher Wood

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Thanks, this is yet another example of the WSJ publishing and thereby promoting authors with no understanding of monetary operations, which means the WSJ editors don’t have any either.

Feel free to send this along the the WSJ with your own introductory comments as well!

>   
>   This is a well written piece, by Mr. Wood of CLSA.
>   

I respectfully don’t agree.

>   
>   He has long maintained a bearish bias which comes through in the
>   article. The points he raises I believe are cogent and logical and ones I
>   have addressed as well over recent days and months.
>   

It doesn’t seem you understand monetary operations either.

>   
>   The end of the article discussing gold I found to be particularly of
>   interest.
>   

The Fed Is Out of Ammunition: A Discredited Dollar Is a Likely Outcome of the Current Crisis

By Christopher Wood

With an estimated $4 trillion in housing wealth and $9 trillion in stock-market wealth destroyed so far in the United States, there is little doubt that we are witnessing a classic debt-deflation bust at work, characterized by falling prices, frozen credit markets and plummeting asset values.

Yes, as well as fiscal automatic stabilizers working their way to the rescue as always.

Those who want to understand the mechanism might ponder Irving Fisher’s comment in 1933: When it comes to booms gone bust, “over-investment and over-speculation are often important; but they would have far less serious results were they not conducted with borrowed money.”

Irv was writing in the context of the gold standard of the time, and that did very well.

But it’s inapplicable with today’s non convertible currency and floating FX.

The growing risk of falling prices raises a challenge for one of the conventional wisdoms of the modern economics profession, and indeed modern central banking: the belief that it is impossible to have deflation in a fiat paper-money system.

You can easily have deflation if the deficit is allowed to get and remain too small.

Yet U.S. core CPI fell by 0.1% month-on-month in October, the first such decline since December 1982.

Pull back in commodity prices mainly, after a long run up, but yes, for now the moment the outlook is deflationary.

The origins of the modern conventional wisdom lies in the simplistic monetarist interpretation of the Great Depression popularized by Milton Friedman and taught to generations of economics students ever since. This argued that the Great Depression could have been avoided if the Federal Reserve had been more proactive about printing money.

On the gold standard this might have worked, though it would have meant the need to rapidly devalue the conversion rate which would have considered a government default. And this did happen.

Today it is inapplicable with non convertible currency and floating FX.

Yet the Japanese experience of the 1990s — persistent deflationary malaise unresponsive to near zero-percent interest rates — shows that it is not so easy to inflate one’s way out of a debt bust.

Doesn’t show that at all. Just shows the depth of their reluctance to use sufficient deficit spending to restore output and employment via increased domestic demand. They want to be export driven and have paid the price for a long time.

In the U.S., the Fed can only control the supply of money;

No, it only can control the term structure of risk free interest rates.

it cannot control the velocity of money or the rate at which it turns over.

True.

The dramatic collapse in securitization over the past 18 months reflects the continuing collapse in velocity as financial engineering goes into reverse.

By identity.

True, this will change one day. But for now, the issuance of nonagency mortgage-backed securities (MBS) in America has plunged by 98% year-on-year to a monthly average of $0.82 billion in the past four months, down from a peak of $136 billion in June 2006. There has been no new issuance in commercial MBS since July. This collapse in securitization is intensely deflationary.

Yes, though offset by increased government deficit spending, increased export revenues (for a while), and increased direct lending by banks to hold in portfolio (which is how it was all done in not so distant past cycles).

It is also true that under Chairman Ben Bernanke, the Federal Reserve balance sheet continues to expand at a frantic rate, as do commercial-bank total reserves in an effort to counter credit contraction.

In an effort to lower rates and thereby counter credit contraction.

Thus, the Federal Reserve banks’ total assets have increased by $1.28 trillion since early September to $2.19 trillion on Nov. 19. Likewise, the aggregate reserves of U.S. depository institutions have surged nearly 14-fold in the past two months to $653 billion in the week ended Nov. 19 from $47 billion at the beginning of September.

So??? Just entries on a government spread sheet with no further ramifications.

But the growth of excess reserves also reflects bank disinterest in lending the money.

So?

This suggests the banks only want to finance existing positions, such as where they have already made credit-line commitments.

Banking is necessarily pro cyclical- get over it!

Monetarist Bernanke and others blame Japan’s postbubble deflationary downturn on policy errors by the Bank of Japan.

Not me. It was the lack of sufficient deficit spending, as above.

But he and others are about to find out that monetary gymnastics are not as effective as they would like to think. So too will the Keynesians who view an aggressive fiscal policy as the best way to counter a deflationary slump. While public-works spending can blunt the downside and provide jobs, it remains the case that FDR’s New Deal did not end the Great Depression.

Mixing metaphors. The New Deal’s deficit spending was far too small to restore output and employment.

There are no easy policy answers to the current credit convulsion and intensifying financial panic — not as long as politicians and central bankers are determined not to let financial institutions fail, and so prevent the market from correcting the excesses.

Yes there is an easy answer- make a sufficiently large fiscal adjustment.

This is why this writer has a certain sympathy for Treasury Secretary Henry Paulson, even if nobody else seems to. The securitized nature of this credit cycle, combined with the nightmare levels of leverage embedded in the products dreamt up by the quantitative geeks, means this is a horribly difficult issue to solve.

Couldn’t be easier. Start with a payroll tax holiday where the treasury makes all FICA payments for employees and employers.

The spread around a few hundred billion in revenue sharing to the states for operations and infrastructure.

Crisis over.

Virtually everybody blames Mr. Paulson for the decision to let Lehman Brothers go. But this decision should be applauded for precipitating the deflationary unwind that was going to come sooner or later anyway.

The Japanese precedent also remains important because the efforts in the West to prevent the market from disciplining excesses will have, as in Japan, unintended, adverse, long-term consequences.

Doesn’t even mention output and employment.

In Japan, one legacy is the continuing existence of a large number of uncompetitive companies which have caused profit margins to fall for their more productive competitors.

Who cares?

Another consequence has been a long-term deflationary malaise, which has kept yen interest rates ridiculously low to the detriment of savers.

Interesting bit of logic!

Meanwhile, the most recent Fed survey of loan officers provides hard evidence of the intensifying credit crunch in America. A net 83.6% of domestic banks reported having tightened lending standards on commercial and industrial loans to large and midsize firms over the past three months, the highest since the data series began in 1990. A net 47% of banks also indicated that they had become less willing to make consumer installment loans over the past three months.

Banks are necessarily pro cyclical- get over it!

Consumers are also more reluctant to borrow. A net 48% of respondents indicated that they had experienced weaker demand for consumer loans of all types over the past quarter, up from 30% in the July survey. This hints at the Japanese outcome of “pushing on a string” — i.e., the banks can make credit available but cannot force people to borrow.

Good! Lower taxes for any given amount of government spending. Bring it on! Now!

The Fed Is Out of Ammunition

With a fed-funds rate at 0.5% or lower in coming months, it is fast becoming time for investors to read again Mr. Bernanke’s speeches in 2002 and 2003 on the subject of combating falling inflation. In these speeches, the Fed chairman outlined how policy could evolve once short-term interest rates get to near zero. A key focus in such an environment will be to bring down long-term interest rates, which help determine the rates of mortgages and other debt instruments. This would likely involve in practice the Fed buying longer-term Treasury bonds.

Yes. And not do a lot for output and employment until fiscal adjustment takes hold.

And do we really want to encourage an increase in private leverage? Been there done that, right?

It would seem fair to conclude that a Bernanke-led Fed will follow through on such policies in coming months if, as is likely, the U.S. economy continues to suffer and if inflationary pressures continue to collapse. Such actions will not solve the problem but will merely compound it, by adding debt to debt.

I think he’s got it right there.

In this respect the present crisis in the West will ultimately end up discrediting mechanical monetarism —

Hope so. It flies in the face of theory and reality.

and with it the fiat paper-money system in general — as the U.S. paper-dollar standard, in place since Richard Nixon broke the link with gold in 1971, finally disintegrates.

Why??? Deflation as above? Deflation is the increase in value of a currency. Disintegration is via inflation???

The catalyst will be foreign creditors fleeing the dollar for gold. That will in turn lead to global recognition of the need for a vastly more disciplined global financial system and one where gold, the “barbarous relic” scorned by most modern central bankers, may well play a part.

Fleeing the dollar for gold means inflation. He’s been preaching deflation for this whole piece. Can’t have it both ways.

Mr. Wood, equity strategist for CLSA Ltd. in Hong Kong, is the author of “The Bubble Economy: Japan’s Extraordinary Speculative Boom of the ’80s and the Dramatic Bust of the ’90s” (Solstice Publishing, 2005).

Aha! Hong Kong has a fixed FX policy, much like a gold standard. He’s applying fixed FX analysis to the us which has a floating FX policy.

The WSJ should have told him this and rejected this op-ed piece.


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The Great Roubini

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Yes, he’s been calling for an economic collapse, that began in July. But looks like yet another case of ‘better lucky than good’ as he here demonstrates a lack of understanding of monetary and fiscal policy.

Roubini: Policies will lead to “much higher real interest rates on public debt”

From Dr. Roubini: Desperate Measures by Desperate Policy Makers in Desperate Times: the Fed Moves to Radically Unorthodox Policies as Economy Is in Free Fall and Stag-Deflation Deepens

Stag-deflation? Whatever.

Another batch of worse than awful news greeted today Americans getting ready for the Thanksgiving holiday: free falling consumption spending, collapsing new homes sales,

They’ve been very low but relatively flat for a while, as actual inventories of new homes for sale fell to multiyear lows.

falling consumer confidence, very high initial claims for unemployment benefits,

Initial claims actually fell a bit, as did continuing claims. And personal income is still growing though at a modest 0.3%. For some reason he has turned to sensationalism. Must be the overdose of TV cameras.

collapsing orders for durable goods. It is hard to get any worse than this but the next few months will serve even worse macro news. At this rate of contraction as revealed by the latest data it would not be surprising if fourth quarter GDP were to fall at an annualized rate of 5-6%.

And Roubini concludes:

[T]he Fed, together with the Treasury, started to implement some of the “crazier” policy actions that we discussed last week: a) outright purchases of agency debt and MBS to the tune of a whopping $600 billion;

This is far from crazy. The treasury should have been funding the agencies from inception. The fact that the government is finally coming around to this after more than 30 years is a move towards sanity.

b) another $200 billion of loans to backstop the consumer and small business credit markets (credit cards, auto loans, student loans, small business loans);

OK, but he doesn’t point out that the securities must be rated AAA and appropriate ‘margining’ will be applied. That is very conservative banking by any measure. Not to mention the $20 billion first loss piece the treasury is putting up from its TARP funds. If any agent is ‘crazy’ in this case it’s the treasury, not the Fed.

c) an effective policy of aggressive quantitative easing as the balance sheet of the Fed – already grown from $800 billion to over $2 trillion – will be expanded further as most of the new bailout actions and new programs will be financed via injections of liquidity

When the Fed buys securities it credits member bank reserve accounts, which now pay interest. (Is that what he means by ‘financed via injections of liquidity?’ What’s the problem here?)

rather than issuance of public debt.

Interest bearing reserve accounts are functionally identical to one day treasury securities.

The Fed is buying financial assets and the sellers in exchange have interest bearing deposits.

What’s the problem?

This is all nothing more than convoluted rhetoric that has not been thought through.

Effectively the Fed Funds rate has been abandoned as a tool of monetary policy …

That makes no sense. The FOMC continues to set a target for the Fed funds rate which the NY Fed continues to be responsible for hitting. That’s Geitner’s main job- to keep the Fed funds rate at the FOMC’s target. The Fed funds rate obviously remains a tool of monetary policy.

the Fed is now relying on massive quantitative easing and direct purchases of private sector short term and long term debts to try to aggressively push down short term and long term market rates.

Yes, in addition to its Fed funds target, the Fed is also targeting longer term rates. In fact, the Fed has always had the option of targeting the entire term structure of rates.

But that is not how quantitative easing has been defined. It was defined in the context of Japan, where the BOJ bought JGP’s to sustain excess reserves in the banking system under the mistaken notion that increasing the quantity of reserves would somehow alter the real economy. It was about quantity, not price. And it did not work as they expected.

Desperate times and desperate economic news require desperate policy actions

Clever.

The Treasury will be issuing in the next two years about $2 trillion of additional debt

It may net spend that much, and issue that much debt along with that net spending.

These policies – however partially necessary – will eventually lead to much higher real interest rates on the public debt

Maybe, but interest rates go up because the Fed raises them or because the markets anticipate the Fed will raise them. It is mainly about anticipating the Fed, rather than funding pressures, particularly for short term securities.

and weaken the US dollar

Yes, deficit spending that does not have positive supply side effects does have a weakening effect on the dollar, but it may simply stop it from getting as strong as it may have, rather than actually push it down vs other currencies.

once this tsunami of implicit and explicit public liabilities and monetary debt

What is ‘monetary debt’ as distinguished from ‘public liabilities?

driven by rising twin fiscal and current account deficits will hit a world where the global supply of savings is shrinking – as most countries moves to fiscal deficits thus reducing global savings

Government deficits in their local currency increase the savings of the non government sectors by the same amount.

Government deficit = private sector savings (net financial assets) as per national income accounting.

– and foreign investors start to ponder the long term sustainability of the US domestic and external liabilities.

Start to ponder???

To continue to attract massive inflows of capital, the U.S. might have to start paying higher interest rates on the public debt.

Totally inapplicable with a non convertible currency and a floating exchange rate. The causation is domestic credit expansion funds foreign savings, not vice versa. Loans create deposits. He’s probably got that backwards as well.

This is one of the concerns that Volcker (previous post) expressed in early 2005.

Yes.


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Fed swap lines

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Recession’s Grip Forces U.S. to Flood World With More Dollars

By Rich Miller

Nov. 24 (Bloomberg) — The world needs more dollars. The United States is preparing to provide them.

In an all-out assault on capitalism’s worst crisis since the Great Depression, the U.S. is taking on the role of both lender and borrower of last resort for the global economy.

To help fight the worldwide dollar squeeze, the Fed has set up currency swap lines with more than a dozen other central banks. Some arrangements, including those with Europe, Britain and Japan, are open-ended, allowing the Fed’s counterparts to draw as many dollars as they need. The U.S. has also established individual $30 billion swap lines with Brazil, Mexico, South Korea and Singapore.

In a speech to a banking conference on Nov. 14, Bernanke characterized these efforts as an “internationally coordinated approach” among central banks to fulfill their function as lenders of last resort.

I’d characterize it as a pure Fed ‘give away’ program.


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Swap line update

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Good news-

The Fed line item believed to be the swap line advances fell a bit to 608 billion from 615 billion the week before.

Not sure, for example, if they are valuing the dollars extended to the ECB or the euros held by the Fed as collateral.

The lines are set to expire in April.

And no way to tell whether the foreign $ borrowing is to fund $ assets already on their books, or whether they are funding beyond that.

The swap lines take some pressure off the process of covering dollar losses by selling local currencies to buy dollars to cover dollar losses.

This helps support, for example, the euro vs the dollar.

However, uncovered dollar losses grow with any depreciation of the local currency, so that risk remains until the currency aspect of the losses are ‘covered.’
This is still completely off the Congressional radar screen.

No one even asked why the Fed would loan over 600 billion to foreign central banks which can be used to support their auto industry at our expense.

And no one indicated that what the autos need most are buyers who can afford the new cars.

A payroll tax holiday would give the automakers and financial sector what they need most- consumers who can afford to make their payments.

(And how about those Democrats critical of companies paying high wages- time have changed!!!)

(Also, Congress could change tax laws to the point of eliminating corp. travel by private jet if they wanted to. Instead they give tax advantages and then
are critical of their utilization. But that’s another story…)


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Fed funds rate, control of

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Bernanke’s Cash Injections Risk Eclipse of Fed’s Benchmark Rate

By Craig Torres

Bernanke said in a congressional hearing yesterday that the expansion of the Fed’s balance sheet “makes it more difficult to control the federal funds rate.” It is “still an issue we are working on,” he told the House Financial Services Committee.

How about the Fed trading Fed funds and making a 1 basis point market in Fed funds. Yes, that would mean lending to Fed member banks without specific collateral, but Fed collateral demands are redundant, as other government agencies- FDIC, OCC, etc- are already responsible for monitoring all bank assets and capital, and presumably close down any and all insolvent banks.


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