Here is something to think about as the Fed continues to expand its Balance Sheet by buying Treasury (and mortgage debt), with an emphasis on systemic limitations that become a little more apparent at the ZIRP boundary where organic money growth is stultified.
As you may recall, the Fed refunds all profit it makes, that is revenue in excess of expenses, back to the US Treasury. And that includes all the interest collected on the bonds its holds.
So as the Fed buys Treasury debt, and holds it to expiration, it refunds all of the interest payments back to the Treasury, less their expenses.
As long as there is at least one Primary Dealer available to make a market in Treasury debt, the Fed, which is technically prohibited from buying the bonds directly from the Treasury, there is a fairly strong measure of control over both the interest paid and the amount of debt which can be issued.
As a thought experiment, what would it be like if the Fed expressed a willingness to buy ALL outstanding Treasury debt at a set schedule of prices? What are the limiting factors? What happens to the debt payments of the Treasury?
Now what would happen if the Bank of England or the European Central Bank stated the same policy for all the relevant sovereign debt? Would it be the same? Or why would it be different?
At the end of the day, the value of a fiat currency is intimately involved in confidence in the mature judgement and trustworthiness of the parties involved in its issuance.
This is why, although it was superficially 'clever,' the platinum coin was such a dodgy idea to resolve what was essentially a financing disagreement.
As I have said, at the end of the day, the only limiting factor on the Fed and the Treasury is the value at market of the currency, especially with regard to international transactions.
Isn't fiat currency grand?
Here are two very simple models of currency supply 'management.' The 'considerations' could be thought of as degrees of freedom.
I could have added a significant amount of detail to both pictures, but I wanted to capture the 'essence' of the system in each.
In the Tripartite Market System the level of debt issuance and its price takes the agreement of at least three parties: the Treasury, the Fed, and the Debt Market as represented by the Primary Dealer. In this system it is the level of debt issuance that is managed, and the prices paid for it.
In the Unilateral System the Treasury determines the level of dollar issuance according to its needs.
I *think* one can contrive a non-debt based system that involves more than one party, and does not necessarily require a non-governmental party to be directly involved.
Technically the existing arrangement between the Congress and the President is a two party system. The Congress authorizes expenditures and the President ratifies, enacts, and adminsters them.
The 'debt ceiling' arrangement in which Congress refuses to 'pay' by deferring to finance its own previously authorized expenditures is a bit of an anomaly and a symptom of dysfunction.
