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February 8, 2010

Government's Stimulus Includes Monetizing Debt


In early June 2009, Treasury Secretary Tim Geithner traveled to China, presumably to talk about US treasury bonds with the Chinese, who grew weary of the excessive debt that the US had put on.  In an interview with CNBC’s Steve Leisman, Geithner was asked if he believed that the United States was monetizing debt, which the Federal Reserve buys US Treasuries from the government in exchange for cash. 

LIESMAN:  Why are you saying-- I mean, you're saying that buying $300 billion of debt by the Fed is not monetizing?

GEITHNER:  Absolutely not.  Again-- the-- no conflict between the Fed's responsibilities for a financial stability, the measures they've taken to help make sure that there's liquidity for markets.  We're (UNINTEL) this process of adjustment in the financial system and their long term obligation to help-- help keep inflation low and stable.  And I'm completely confident in their ability to do that.

So the Treasury Secretary is stating that the government is not creating money through its massive spending spree.

If that’s the case, how’s come according to the chart below, the money supply started popping when the bailouts began?

Money Supply in Billions, 2008-2009

It is becoming more apparent in the study of economics that if the money supply were to contract, an economic depression is imminent.  Notice the light decline in the money supply from July to August 2008.  It was clear based on this model and the bankruptcies that occurred in September that a depression was looming.  But, did we really need to print an extra trillion dollars over the next year?
If the federal government is not monetizing the debt, than where did all this extra money come from?  The Federal Reserve’s purchase of $300 billion in treasury debt last year was a transaction where the Fed gave the government $300 billion in exchange for debt.  How is that not debt monetization?

Furthermore, Wikipedia has a special section on monetizing debt where it solely singles out the United States: 
"In the United States, and in many other countries, the government does not have the power to issue new currency to pay its bills[citation needed] – it must instead finance the deficit by issuing new bonds and selling them to the public to acquire the necessary money to pay its bills. However, if these bonds do not end up in the hands of the public, the only alternative is for them to be purchased by the central bank. For the bonds not to end up in the public hands the central bank must conduct an open market purchase. This action by the central bank increases the monetary base through the money creation process. This process of financing government spending is called monetizing the debt.[1] Monetizing debt is a two step process where the government issues debt to finance its spending, the central bank purchases the debt from the public and the public is left with high powered money."
So, we may want to ask Treasury Secretary Geithner again whether or not we are monetizing the debt.  I just hope he didn’t try to tell the Chinese we weren’t.  If he did, he would have made us all look dumb.

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