US Government Securities

[Billym]

I recently took a course on World Economy and Trade. At one point in the lecture, the teacher maintained that US Government Notes, Bonds, Securities, etc., are not used to help fund the federal government but simply a means to create currency and set interest rates. If this is the case - these notes are not debt instruments like corporate bonds, for instance, - what happens to the money an investor makes in these issues? And what entity is making the timely interest payments or paying off the face value of the issue at the end of the term?

Many thanks.

Billym

[NYBoglehead]

I think your professor is an idiot. Of course bonds are used as debt instruments to finance current spending. Where does the professor think the money comes from to cover the budget deficit? If we take in a trillion dollars less annually then we receive in tax revenue, where does this money come from if not from the issuance of bonds?

[BBL]

simply a means to create currency and set interest rates.

Is it possible that you missed or misinterpreted some part of the lecture? Part of what you are describing sounds like garden variety open market operations conducted by the FED as a part of regular monetary policy:

"The execution of OMOs in the "open market"—also known as the secondary market for securities purchases—is the Federal Reserve's most flexible means of carrying out its objectives. By adjusting the level of reserve balances in the banking system through open market operations, the Fed can offset or support permanent, seasonal or cyclical shifts in the supply of reserve balances and thereby affect short-term interest rates and by extension other interest rates."

More here:

http://newyorkfed.org/aboutthefed/fedpoint/fed32.html

[HardSphere]

I think your professor is an idiot. Of course bonds are used as debt instruments to finance current spending. Where does the professor think the money comes from to cover the budget deficit? If we take in a trillion dollars less annually then we receive in tax revenue, where does this money come from if not from the issuance of bonds?

Strictly speaking, it comes from taxpayers in the future, not bond holders in the present.

[Billym]

BBl,

Thanks for your reply.

I don't know about OMO's: But I am thinking what he was saying was at least in line with the following:

“There is no inherent limit on federal expenses and therefore on federal spending…When the U.S. government decides to spend fiat money, it adds to its banking reserve system and when it taxes or borrows (issues Treasury securities) it drains reserves from its banking system. These reserve operations are done solely to maintain the target Federal Funds rate.” Monty Agarwal , managing partner and chief investment officer of MA Managed Futures Fund

[rmelvey]

Who is your professor? I agree with him entirely BTW.

[Billym]

Rmelvey,

The instructor is a retired economist. I actually do understand OMOs as BBl wrote. My original question wondered where my purchase money went. I assume it goes to the Federal Reserve along with all the rest of the purchase money from not only the Primary Dealers but any other large entity that bought the securities at an earlier auction. However, what happens to this purchase money - does it just reside at the Fed and is used to moderate money supply, whatever that means, or is it used for everyday government expenses? The excerpt below doesn't say anything about creating currency or setting interest rates:

From the New York Fed: http://www.newyorkfed.org/aboutthefed/f ... fed41.html

Treasury Auctions

The U.S. Government currently auctions Treasury bills, and notes to finance the public debt. Most of the securities are bought by primary dealers which are large securities dealers; a small amount is purchased by individual investors. Bids are submitted through Treasury Direct or through depository institutions, the Federal Reserve Bank of New York, and the Bureau of Public Debt. The Treasury's Bureau of Public Debt and the Federal Reserve Bank of New York offer bidding by computer to institutional investors such as banks, brokers and dealers.

The U.S. Treasury Department regularly borrows to finance the Federal Government's deb. From 1980 to 2006, the public debt of the United States grew from $930 billion to $8.68 trillion. Approximately one-half of that debt is held in Treasury bills, notes, and bonds, or "treasuries."

Thanks again for your answers.

Billym

[NYBoglehead]

I'm interest to know where the the money comes to make up for the budget deficit if it doesn't come from the selling of bonds. Does this money just magically appear? Retired economist, huh? I'm sure you'll gain great insight from his published works that predicted the financial crisis, the housing bubble, etc.

Is anyone other than me annoyed that economic data is constantly a surprise to these people? "The GDP numbers unexpectedly came in at..." "First time jobs claims jumped unexpectedly..."

Everything is always a surprise to these people. They are like weathermen. No matter how wrong they consistently are, we listen to them for what they think going forward.

[y5a5gdqwty]

I'm interest to know where the money comes to make up for the budget deficit if it doesn't come from the selling of bonds.

That's easy. Money is simply entered on the computer. Money is just a number.

[rmelvey]

Billym,

If you want to go on a never ending journey of learning on this path I suggest googling MMT (modern monetary theory) or MR (monetary realism). Key names are Bill Mitchell, Warren Mosler, Randall Wray, and Cullen Roche.

[Billym]

rmelvey,

I hope it isn't never ending. Many thanks for help.

Billym

[Drain]

I'm interest to know where the money comes to make up for the budget deficit if it doesn't come from the selling of bonds.

That's easy. Money is simply entered on the computer. Money is just a number.

This is correct. This is what it means to be on a fiat currency. The federal government can create money whenever it wishes to meet any obligation. As an aside, I'm fine with that.

So the professor was right.

[Phineas J. Whoopee]

I recently took a course on World Economy and Trade. At one point in the lecture, the teacher maintained that US Government Notes, Bonds, Securities, etc., are not used to help fund the federal government but simply a means to create currency and set interest rates. If this is the case - these notes are not debt instruments like corporate bonds, for instance, - what happens to the money an investor makes in these issues? And what entity is making the timely interest payments or paying off the face value of the issue at the end of the term?

Many thanks.

Billym

Hi Billym,

I believe your teacher must be an adherent of Modern Monetary Theory (sometimes called MMT). It claims to be, in its words, "politically agnostic."

Full disclosure - I personally disagree with that assertion.

[Edited to change links at this spot. For anyone who had followed the links I posted earlier, I used them because I couldn't find a reasonably neutral source. I had missed that MMT is an example of Chartalism, which is the Wikipedia topic.]

Here's a Wikipedia article.
http://en.wikipedia.org/wiki/Chartalism

I don't know whether a discussion of MMT itself would be on topic for this forum.

PJW

[rmelvey]

rmelvey,

I hope it isn't never ending. Many thanks for help.

Billym

This book is a really great summary if you don't feel like scouring the internet:
http://www.amazon.com/Modern-Money-Theo ... ney+theory

Keep in mind that this stuff is not mainstream at all.

[Billym]

I want to thank everyone who has taken the time to respond. It's been a great help.

Billym