The U.S. government as a whole buys back the Treasury security. In other words, one agency of the government (the Treasury) sells the security on the open market, while the other agency of the same government (the Fed) buys it back.
Yeah exactly. And the Treasury pays interest to the FED. So it pays interest to itself.
Edit:
Because that security (or loan) isn’t deleted when the FED buys it. It stays as a loan contrary to the way it would be deleted if the Treasury bought it back from the FED.
Re-phrase that statement to this: the U.S. government pays interest to itself.
Here is the necessary implication. Is the IOU meaningful if the creditor and the debtor are one and the same?
Technically the Treasury security still exists, in the same way your IOU document for $100 owed still exists, if you choose to keep it and pay yourself interest at $10 annually, after buying it back from your friend.
Right - than this is exactly (through the Federal Reserve and the Treasury) what the US government IS doing.
This would be a problem because of the following:
principle + interest > principle
The government could tax people more and pay off the Security completely:
principle + interest = principle + increased taxes
But instead the government gets more loans to pay off it’s existing loans:
Loan 1 = Principle1 + Interest1
Loan 2 = Principle2 + Interest2
Loan1 = Principle1 + Princple2
Interest2 is left. Unpaid. So the government would need another loan and would perpetually never have enough to pay it off.
It gets worse though because the government isn’t paying the Principle off - it’s only paying the Interest (according to the Budget). This would eventually result in major inflation would it not? Isn’t this the definition of bankruptcy? (Getting a loan to pay off a loan). And how the Government could be in bankruptcy to itself boggles my mind.
Additional Questions:
- Is there a time limit on a security? If it is not paid by that time does the interest start to compoud?
- Can a private bank buy a security using fractional reserve lending?
This is really bizarre, and I’m not sure how I can make it any clearer. Because the Fed buys the Treasury security on the open market, the Treasury does not need to allocate any tax revenue to pay off the same security.
This is because the Fed has already paid off the security in full with its Federal Reserve Notes.
Why would the Treasury need to create a security at all if the Fed buying it meant that the security was “paid-off”? That would be insanity.
Let me ask:
If the FED buys a Security - and the Government pays interest on that Security (which they do) - who are they paying it to? The FED of course! Just because the FED buys the security does not mean that the security is paid in full and cancelled.
If it did mean that, why would the government pay interest to the FED?
Let me explain this in the crudest possible terms I can. Why can’t the U.S. government crank out the printing press and print money, and completely pay down 100% of the Federal debt?
The answer is: It can, through the Federal Reserve, and it is doing it, but this introduces some other undesirable complications.
Here is the problem. It seems you’re treating the Fed as something that exists outside the U.S government. But in reality the Fed is one of many government agencies, like the Treasury, and such, so it is one part of the whole government.
That said, the short answer would be: The U.S. government is paying interest to itself.
The long answer would be: The U.S. government is moving funds back and forth among its various government agencies, through a number of complicated and drawn out steps.
Just because you bought back that IOU from your friend, doesn’t mean that IOU is paid in full and canceled? How can anybody think that? That IOU is actual debt you owe to yourself at $100, which you must pay yourself $10 a year in interest.
How meaningful is an IOU if the creditor and debtor are one and the same?
Actually - it would be very meaningful. The FED is a part of the US government - yes. But in the same way as if I own a company, that company is also a “part of me”.
If I loan money from my personal account to my business account I still have to pay the interest on that loan. The interest has to come from somewhere. Even though it all belongs to me - if I don’t pay that loan off I still need to make interest payments. Those interest payments require me to do things to make money - such as taxing my employees, or printing money and loaning it to my company - so the company can pay me back. Only I don’t have the ability to print my own money like the FED does.
I could cancel the loan. But I don’t. And the FED doesn’t cancel securities when it buys them either. Does it?
Let me explain this in the crudest possible terms I can. Why can’t the U.S. government crank out the printing press and print money, and completely pay down 100% of the Federal debt?
The answer is: It can, through the Federal Reserve, and it is doing it, but this introduces some other undesirable complications.
There are a few more reasons that enter into it. First off, the more debt is bought with brand new money, the more inflation is created - and that is a creature the government doesn’t want to get out of hand. Too high inflation makes the subjects too restless and undermines the economy, therefore it is in the interest of a government to draw the largest possible amount of private investment into it.
The second is the perception of the process. The complicated system, that works through private companies and “independent” entities, sells the state debt to private investors, giving the appearance of trustworthiness of state debt, and obfuscates the creation of new money. If the state would just print the money it spends, it would be noticed, and hit the authority of the state hard. (The last country to try to live solely off the printing press was Zimbabwe - not an example to follow.)
One could also argue, that drawing the banking industry closer to the state has its own advantages, but as you see, there are more reasons to make things complicated.
So I had another look at what you were saying and drew the whole process out on paper. I think I understand what you’re saying. Is the FED basically just a free money machine for the government? Because when they just keep passing the interest back and forth (apart from the divivdends paid to shareholder banks in the FED) it’s like there is no interest at all.
Yes. There are some interesting implications to that premise, but basically that’s it.