Author Topic: How can the Fed unlimited QE be deflationary?  (Read 7301 times)

muscleman

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Re: How can the Fed unlimited QE be deflationary?
« Reply #70 on: August 03, 2020, 07:23:53 AM »
Now we have this. That's all deflationary policies huh? I guess Stan Drunkenmiller has made a really bad macro call.

https://www.wsj.com/articles/fed-weighs-abandoning-pre-emptive-rate-moves-to-curb-inflation-11596360600
The Federal Reserve is preparing to effectively abandon its strategy of pre-emptively lifting interest rates to head off higher inflation, a practice it has followed for more than three decades.

Instead, Fed officials would take a more relaxed view by allowing for periods in which inflation would run slightly above the central bankís 2% target, to make up for past episodes in which inflation ran below the target.
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KJP

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Re: How can the Fed unlimited QE be deflationary?
« Reply #71 on: August 03, 2020, 07:36:17 AM »

KJP - I know this gets a bit "chicken-or-the-egg-y..." but bear with me. 

Thanks for the detailed response.  I believe some of the constraints are statutory, rather than merely regulatory (not sure exactly what you meant by "rules"), but, of course, even statutes can be changed.  But if we assume the current regime remains, can the Treasury's account go negative?  If not, how is that Treasury account "funded"?

Stepping into hypotheticals, if the Treasury account can go negative, is that any different than the Fed buying Treasury debt directly?  After all, a "negative" balance is simply a loan, even if a forced one.  And if the Fed can buy Treasury debt directly, does that cross the Rubicon into pure money-printing?  Put another way, a constraint under the existing rules seems to be the someone needs to first buy Treasury debt issuance.  If the Treasury's Fed account can go negative, that constraint is eliminated and the Treasury may spend an infinite amount of dollars without any revenue.  [I have not yet read Prof. Kelton's book, but is her thesis that this is how the monetary system actually works now, and any focus on "pre-funding" the Fed's Treasury account is a misunderstanding?]

 
« Last Edit: August 03, 2020, 07:38:59 AM by KJP »

wabuffo

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Re: How can the Fed unlimited QE be deflationary?
« Reply #72 on: August 04, 2020, 06:50:46 AM »
KJP - at the risk of extending a topic that seems to be petering out in terms of interest-levels...

And if the Fed can buy Treasury debt directly, does that cross the Rubicon into pure money-printing?

You are assuming that these direct-buys of Treasuries are the Fed helping the US Treasury.  But what if history has shown that in the rare cases where they happen, it is the other way around?  What if it is the Federal Reserve that is actually the structurally weaker institution and needs occasional propping up by the US Treasury?  Go back to Sept 2008, as the mushroom clouds were going off around the financial sector.  There was this rather brief announcement by the US Treasury on Sept 17, 2008:

https://www.treasury.gov/press-center/press-releases/Pages/hp1144.aspx
Quote
The Treasury Department announced today the initiation of a temporary Supplementary Financing Program at the request of the Federal Reserve.  The program will consist of a series of Treasury bills, apart from Treasury's current borrowing program, which will provide cash for use in the Federal Reserve initiatives.
Back then, there was a real fear that the Fed was going to run out of Treasuries as it was acting as a direct lender to financial firms that were desperate to exchange bad collateral for good (US Treasuries).  At the time, the program was euphemistically known as "Treasuries for trash".  Thus this announcement was declaring that the US Treasury was issuing $585b of T-Bills directly to the Fed and in return the Fed was crediting the US Treasury with $585b in settlement balances in its General account.  The US Treasury did this to give the Fed more "ammunition".

We've seen this again in this crisis, where the US Treasury has added $114b in "equity" to absorb first losses from some of the new Fed lending programs that could expose the Fed to losses.

If the Treasury's Fed account can go negative, that constraint is eliminated and the Treasury may spend an infinite amount of dollars without any revenue.

Even though the US left the gold standard in 1971, I think the old concepts when the US dollar was subordinated to gold have refused to die - even if they are no longer applicable.  Through trial and error, we are finding that since severing the link to gold, the US Treasury has more fiscal capacity than we previously thought.  Dick Cheney turned out to be an armchair Nobel economist when he said "deficits don't matter" - even if his utterance may have been a cynical exhortation to Congress to pass the Bush tax cuts in the early aughts.
 
The reality is if you look at the Fed and the US Treasury on a consolidated basis - their three forms of private sector financial assets are all debts in that they are liabilities of their consolidated balance sheet (currency in circulation, bank reserves, Treasury debt). 

What is cash?  It is a Federal Government IOU.  In fact, here is a UK 20 pound note.  These banknotes have a smiling Queen Elizabeth saying "I promise to pay bearer on demand the sum of twenty pounds".  It sure sounds like some form of IOU.  It seems like one could present a 20 pound note to the Queen, and she will give you a ...hmm...uhh... a shiny and new 20 pound note in exchange.  8)



If one accepts that currency and banknotes are IOUs, then why is US Treasury Debt the only one of the three forms of Federal government liabilities that we consider debt?  We think of money as a unit of account but what if it is really government debt?

Why are they IOUs?  Because banknotes are basically scrip that the private sector must obtain in order to extinguish its Federal tax (and fee) obligations that are imposed on the private sector by the government. The Federal government must operate in a deficit with the private sector so as to allow the private sector to accumulate the government's money to pay its taxes.  Once the cycle starts, it becomes a flywheel that almost makes the original premise secondary (i.e., that the government's money is really a sort of "tax anticipation note payable"). 

Recently when States like California and Illinois got into financial trouble they would issue IOUs to suppliers.  These IOUs were accepted locally because attached to these IOUs was a provision where the IOUs could be used to extinguish State govt tax and fee liabilities.  Thus, not only were they accepted, but they also achieved some limited local circulation in commercial transactions with banks, for example.  There are other historical examples. During the War of 1812, a cash-strapped (and gold-strapped) US government issued short-term US Treasury debt that paid a low nominal interest rate (but could also be used to extinguish tax liabilities).  These notes circulated widely and some even continued to circulate well past their redemption date (and thus no longer paid any interest).  They continued to circulate because they became a form of banknote (money) as they could be presented to the Federal government for payment of taxes or tariffs owed.

I think this forms the basis of MMT's theoretical framework and I am generally sympathetic to it.  My problem with MMT is that it has been embraced largely by the left and thus it is hard to separate its explanatory features from its prescriptive (Green New Deal, Guaranteed Employment, etc).  It also refuses to reconcile the opposing forces of fiscal capacity expansion versus currency debasement or give a nod to the economic benefits of low taxes and sound money.  MMT-adherents tend to ignore the currency debasement part even when the evidence piles up (eg., gold).

wabuffo
« Last Edit: August 04, 2020, 02:42:40 PM by wabuffo »

Vish_ram

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Re: How can the Fed unlimited QE be deflationary?
« Reply #73 on: August 04, 2020, 08:46:02 AM »
The real concern Iíve is that we are using the Fed (monetary tools) to put a bandaid on structural issues (Curtailing growth in entitlement spending & others).

It is sickening to see that we cannot balance the books in a booming economy (until Jan 2020). Giving tax cuts without offsetting spending is just pernicious.

A couple of things that Trump has done is a step in the right direction - fixing trade agreements, preventing IP theft, bringing back US manufacturing etc. Both the parties have killed the middle class. If middle class is alive and well ,we would have good tax revenues and we may not have to use Fedís credit card.

Let me flip the question: IF Fed had a limited QE, what would happen?
This would be even more deflationary. Treasury would have to borrow from publicís savings & from foreigners. They would demand higher interest rate. THe amount of Tís borrowing would significantly drop. They have to make painful cuts in social security, medicare, military spending etc. This would start a vicious cycle of deflation.
If Treasury is willing to issue at higher interest rate, then they have to borrow more to just pay the interest.

The economic output would drop further, reducing tax receipts. This further pushes us to more deflation.

Just like legislators fail to do their job in enacting laws without ambiguity pass the buck to Supreme courts, they are using Fed to fix structural issues. No wonder they have the lowest approval ratings.

Castanza

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Re: How can the Fed unlimited QE be deflationary?
« Reply #74 on: August 04, 2020, 11:01:44 AM »
KJP - at the risk of extending a topic that seems to be petering out in terms of interest-levels...

And if the Fed can buy Treasury debt directly, does that cross the Rubicon into pure money-printing?

You are assuming that these direct-buys of Treasuries are the Fed helping the US Treasury.  But what if history has shown that in the rare cases where they happen, it is the other way around?  What if it is the Federal Reserve that is actually the structurally weaker institution and needs occasional propping up by the US Treasury?  Go back to Sept 2008, as the mushroom clouds were going off around the financial sector.  There was this rather brief announcement by the US Treasury on Sept 17, 2008:

https://www.treasury.gov/press-center/press-releases/Pages/hp1144.aspx
Quote
The Treasury Department announced today the initiation of a temporary Supplementary Financing Program at the request of the Federal Reserve.  The program will consist of a series of Treasury bills, apart from Treasury's current borrowing program, which will provide cash for use in the Federal Reserve initiatives.
Back then, there was a real fear that the Fed was going to run out of Treasuries as it was acting as a direct lender to financial firms that were desperate to exchange bad collateral for good (US Treasuries).  At the time, the program was euphemistically known as "Treasuries for trash".  Thus this announcement was declaring that the US Treasury was issuing $585b of T-Bills directly to the Fed and in return the Fed was crediting the US Treasury with $585b in settlement balances in its General account.  The US Treasury did this to give the Fed more "ammunition".

We've seen this again in this crisis, where the US Treasury has added $114b in "equity" to absorb first losses from some of the new Fed lending programs that could expose the Fed to losses.

If the Treasury's Fed account can go negative, that constraint is eliminated and the Treasury may spend an infinite amount of dollars without any revenue.

Even though the US left the gold standard in 1971, I think the old concepts when the US dollar was subordinated to gold have refused to die - even if they are no longer applicable.  Through trial and error, we are finding that since severing the link to gold, the US Treasury has more fiscal capacity than we previously thought.  Dick Cheney turned out to be an armchair Nobel economist when he said "deficits don't matter" - even if his utterance may have been a cynical exhortation to Congress to pass the Bush tax cuts in the early aughts.
 
The reality is if you look at the Fed and the US Treasury on a consolidated basis - their three forms of private sector financial assets are all debts in that they are liabilities of their consolidated balance sheet (currency in circulation, bank reserves, Treasury debt). 

What is cash?  It is a Federal Government IOU.  In fact, here is a UK 20 pound note.  These banknotes have a smiling Queen Elizabeth saying "I promise to pay bearer on demand the sum of twenty pounds".  It sure sounds like some form of IOU.  It seems like one could present a 20 pound note to the Queen, and she will give you a ...hmm...uhh... a shiny and new 20 pound note in exchange.  8)



If one accepts that currency and banknotes are IOUs, then why is US Treasury Debt the only one of the three forms of Federal government liabilities that we consider debt?  We think of money as a unit of account but what if it is really government debt?

Why are they IOUs?  Because banknotes are basically scrip that the private sector must obtain in order to extinguish its Federal tax (and fee) obligations that are imposed on the private sector by the government. The Federal government must operate in a deficit with the private sector so as to allow the private sector to accumulate the government's money to pay its taxes.  Once the cycle starts, it becomes a flywheel that almost makes the original premise secondary (i.e., that the government's money is really a sort of "tax anticipation note payable"). 

Recently when States like California and Illinois got into financial trouble they would issue IOUs to suppliers.  These IOUs were accepted locally because attached to these IOUs was a provision where the IOUs could be used to extinguish State govt tax and fee liabilities.  Thus, not only were they accepted, but they also achieved some limited local circulation in commercial transactions with banks, for example.  There are other historical examples. During the War of 1812, a cash-strapped (and gold-strapped) US government issued short-term US Treasury debt that paid a low nominal interest rate (but could also be used to extinguish tax liabilities).  These notes circulated widely and some even continued to circulate well past their redemption date (and thus no long paid any interest).  They continued to circulate because they became a form of banknote (money) as they could be presented to the Federal government for payment of taxes or tariffs owed.

I think this forms the basis of MMT's theoretical framework and I am generally sympathetic to it.  My problem with MMT is that it has been embraced largely by the left and thus it is hard to separate its explanatory features from its prescriptive (Green New Deal, Guaranteed Employment, etc).  It also refuses to reconcile the opposing forces of fiscal capacity expansion versus currency debasement or give a nod to the economic benefits of low taxes and sound money.  MMT-adherents tend to ignore the currency debasement part even when the evidence piles up (eg., gold).

wabuffo

Thanks for sharing your thoughts and explanations throughout this thread wabuffo. Was wondering if you have any books or resources you recommend to become better versed in this area? You clearly have spent a lot of time on this topic.

thanks

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wabuffo

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Re: How can the Fed unlimited QE be deflationary?
« Reply #75 on: August 04, 2020, 02:08:36 PM »
Was wondering if you have any books or resources you recommend to become better versed in this area? You clearly have spent a lot of time on this topic.

Castanza - I'm largely self-taught.  No one book really puts it all together, IMHO.  But I would recommend the following two books.  There are parts in each one that are good and parts that aren't as relevant.  But if you take the best of both, you could get some good insights.

Understanding Modern Money by L. Randall Wray.   Its a bit dated now - but you might be able to find a used copy.  Also - there are good chapters where he explains the monetary system from both a central bank as well as a fiat-issuing sovereign government perspective.  But also feel free to ignore the prescriptive portions like the job guarantee.
https://www.amazon.com/Understanding-Modern-Money-Employment-Stability-dp-1845429419/dp/1845429419/ref=mt_other?_encoding=UTF8&me=&qid=1596574827

Pragmatic Capitalism by Cullen Roche.   Roche is not a MMT-believer but he does a very good job explaining how the Fed works.  This book covers other topics but its chapters on monetary operations are well done and easy to understand.
https://www.amazon.com/Pragmatic-Capitalism-Every-Investor-Finance/dp/1137279311/ref=tmm_hrd_swatch_0?_encoding=UTF8&qid=1596575676&sr=1-1

wabuffo
« Last Edit: August 04, 2020, 02:41:57 PM by wabuffo »

Castanza

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Re: How can the Fed unlimited QE be deflationary?
« Reply #76 on: August 06, 2020, 11:33:54 AM »
Was wondering if you have any books or resources you recommend to become better versed in this area? You clearly have spent a lot of time on this topic.

Castanza - I'm largely self-taught.  No one book really puts it all together, IMHO.  But I would recommend the following two books.  There are parts in each one that are good and parts that aren't as relevant.  But if you take the best of both, you could get some good insights.

Understanding Modern Money by L. Randall Wray.   Its a bit dated now - but you might be able to find a used copy.  Also - there are good chapters where he explains the monetary system from both a central bank as well as a fiat-issuing sovereign government perspective.  But also feel free to ignore the prescriptive portions like the job guarantee.
https://www.amazon.com/Understanding-Modern-Money-Employment-Stability-dp-1845429419/dp/1845429419/ref=mt_other?_encoding=UTF8&me=&qid=1596574827

Pragmatic Capitalism by Cullen Roche.   Roche is not a MMT-believer but he does a very good job explaining how the Fed works.  This book covers other topics but its chapters on monetary operations are well done and easy to understand.
https://www.amazon.com/Pragmatic-Capitalism-Every-Investor-Finance/dp/1137279311/ref=tmm_hrd_swatch_0?_encoding=UTF8&qid=1596575676&sr=1-1

wabuffo
Thanks for the recommendations, I will take a look.
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