Let’s Look a Little More Closely at What Bernanke Told Congress

In Congressional testimony last week, Fed Chairman Ben Bernanke slipped several things  in that no one much noticed. He said that the Fed might eventually  choose to exit from its current monetary expansion binge, not by selling US government securities, but by letting them mature. He also said that the Fed might possibly keep interest or principal payments for itself.

Let’s stop for a moment to consider what these two statements mean. At the moment, the Fed earns interest from the Treasury on bonds which it has bought with the money it has just pulled ” out of thin air.” It then pays its expenses, including the growing cost of the new consumer finance agency created by Dodd Frank that was placed in the Fed so that its costs would not have to be included in the federal budget. Since the interest on the bonds is larger than the expenses, in the end the Fed sends money back to the Treasury.

We aren’t told exactly how much has been deducted at the Fed, but we do see the amount of money returning to the Treasury. It’s a circular flow designed to obscure what is happening, which is the government simply printing money to pay its bills.

So what happens if the Fed holds a bond to maturity? In that case, the Fed presumably receives the principal payment from the Treasury and then sends that back to the Treasury too. In effect, the government has simply canceled its own debt.

When Adair Turner, a candidate for governor of the Bank of England last fall, said that the BOE would consider canceling some of the government’s bonds, this was considered a bit shocking, and the job went to Mark Carney instead. Now Bernanke has in effect announced an intention to cancel US bonds, and it doesn’t cause a ripple.

It can certainly be argued that it shouldn’t cause a ripple, that once the Fed has bought US bond with newly created money, the debt has already been canceled. But central banks like to do these things, step by step, as quietly as possible, and Bernanke has once again succeeded in making radical policy sound so boring that everyone slumbers as he announces it.

To make it even more complicated and confusing, Bernanke added that the Fed might also, for the first time, decide to keep the government’s money, not return the unexpended portion to the Treasury. Why would the Fed do that? The Chairman did not explain. But he must be worried that a rise in interest rates could result in a fall in bond values that would in turn bankrupt the highly leveraged Fed.

If the Fed’s  capital base disappeared, the Fed could just print more money for its own use, but clearly the Chairman worries whether he has the statutory authority to do that. Not long ago, the Fed quietly released a statement that in the event of a need to refinance the Fed, the Treasury would be responsible for doing so. This has no clear statutory authority either. So the new idea may be to hold back some of the interest or principal payments the Fed receives and not return them to the Treasury so that our — the public’s money– can be used to refinance the Fed if needed without publicly asking the Treasury for money.

The Fed is not just ignoring or stretching its own statute in doing all this. It is ignoring the Constitution as well. Only Congress is supposed to be able to authorize the expenditure of public funds.

Comments

  1. The article says “So what happens if the Fed holds a bond to maturity? In that case, the Fed presumably receives the principal payment from the Treasury and then sends that back to the Treasury too. In effect, the government has simply canceled its own debt.”

    Maybe I’m missing something here. I would not presume the Fed would return the money to the Treasury. Would it not just cancel out that portion of the Fed’s balance sheet? The money to buy the Treasury debt came from nothing, would it not go back to nothing whence it came when it was paid off?

    When a person takes out a bank loan, the money is created out of nothing when the deposit shows up in the persons checking account. Then as the person pays the loan off, the bank gets to keep the interest earned (from the existing base money supply) and the principal goes back from where it came, nothing. Would not the Fed transaction with the Treasury work the same way?

    I’m just trying to learn so perhaps I am missing something simple.

    jb

    • I added a few paragraphs to my post to provide a more complete explanation of this. When the Fed receives money from the treasury it usually returns it minus its expenses. That is done to make it look more like a real loan, not just the flimflam it is. However, the Fed might also keep the money to build its reserves.

  2. I have a friend who gave the best analysis of Bernanke’s speech I have read.

    After all of this BB says there are 2 risks:

    A. 10 yr rates don’t go up
    B. 10 yr rates do go up

    They don’t know what will happen, but they are monitoring it closely.

  3. It just demonstrates how ignorant Congress actually is on monetary policy. Greenspan would purposely say nothing but economic double speak because he knew that the two banking Committees were full of ignorant bafoons. They would nod and thank him for being so awesome.
    Worse yet, there are actually people out there who believe it a good idea to dissolve the Fed and run monetary policy from Congress. Talk about the from the pan into the fire!
    Thomas Sowell was once asked what he would replace the Fed with if it were removed. He replied,”What would you replace cancer with after an operation?”

  4. Is it any wonder that there is a symbiotic relationship between the Federal Reserve’s ability to conjure up money and credit out of thin air and the ability of the Internal Revenue Service to go into any paycheck,business,investments,savings or onto any property and take what they want in any amount they want any time they want in order to levy a tax to pay the interest on the Bonds created out of thin by the government. Basically what we have is the world’s biggest scam done under the color of law and the power of the gun. That is paper bonds created out of thin backing paper money and or credit created out of thin air buying real goods and services created in the market. In order for the real goods and services to be created in the market you need investment,management,labor,raw materials and or skills to produce the products or services. All the Federal Government needs is a printing press,a computer,legal tender laws,tax laws and the power to enforce those laws. After 100 years of this symbiotic relationship America has experienced continuous wars,a bankrupt welfare state,a bloated wasteful government and a voting majority of the people riding the government gravy train and less and less productive people pulling that same train. After 100 years of both the Federal Reserve and the Income Tax America is hopelessly in debt,hopelessly over taxed with our money rapidly losing its value. The Founding Fathers knew what would befall our Nation if Central Banking,Fiat Currency and Direct Taxation would be allowed in America. This is why they banned those items in the original Constitution. Of course,the original Constitution has been so amended,misinterpreted and or misapplied that it is,for all intents and purposes,a dead letter. The end results of the Federal Reserve Act has been the facilitating of the financial means to help destroy the American Republic and replace that Republic with a fascist mobocracy controlled,behind the scenes,by a small group of powerful ambitious men. In the end it has made tax serfs out of the productive Economic Class,not only today,but well into the future. Ron Paul was correct. You can not restore liberty and prosperity in America until you end the Fed and shut down the IRS. Unfortunately, I don’t see those 2 things happening in my lifetime.

  5. Y’know, the Bernanke has a way of saying the most outrageous things in such a boring, pedantic tone that nobody notices.
    There was this one moment, years back, when under fire from the great Ron Paul, he blurted out to the effect that “Look, the Federal Reserve made possible the U.S. entry into the First World War”
    I heard that in real time and I spontaneously levitated several feet into the air and said roughly: “WTF?!?!?!?!?”
    Of course, my shock was that he had blurted out THE TRUTH! And what a horrific truth! Maybe the single most heinous moment in the 20th Century. (and that’s saying something!)
    To this day, I cannot locate that video on the web. Maybe someone out there with more bandwidth could give it a try. Personally, I think it was flushed.

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