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Thursday, October 28, 2010

Default On Monetized Debt?

A friend of mine brought up this question, and I didn't have an answer.

What would happen - negatively - if the Treasury selectively defaulted on the T-bills/bonds that are part of the monetized debt held by the Federal Reserve Bank (FRB)?

For those of you who aren't finance geeks, part of our national debt is considered "monetized".  This happens when one part of our government buys the debt of another.  The Treasury issues T-bills or bonds.  This is a part of our national debt.  The FRB literally creates money by pushing keys on a computer, and buys some of this debt.

So, one arm of the federal government takes money out of one pocket and puts it in the other pocket.  It's insane and obscenely inflationary, but it's how we do business.

The Treasury uses the proceeds from the sale of the debt to pay our national bills.

So, what would happen if the Treasury notified the world that they were going to default ONLY on the debt held by the FRB?

It's not like the Treasury had to put up any collateral as security for the debt.  The Washington Monument isn't going to be foreclosed upon.  They were banking on the "full faith and credit" scam.

The Fed will be none the worse, as it's not like they sold a bunch of gold or silver to scrape together the money to buy the bonds/bills.

The National Debt would be reduced by the amount of the default, so all other holders of T-bills/bonds would be happy, since there would now be a lower likelihood of default on the debt they hold (since the Treasury would no longer have to get money from taxes or new debt to pay interest on the FRB-held debt).

The asset side of the FRB balance sheet would be reduced by the defaulted bills/bonds, but again, it was really created out of thin air anyways, so what's the big deal?

The only negative thing I can think of is that the "full faith and credit" scam would have a black eye.  BFD.  It's on shaky ground - at best.

Hell, maybe that's been the plan all along.  Or am I missing something here?

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Anonymous said...

My question would be, why? Any default will hurt us in the international market and it will devalue our currency. So why just default on some of the loans and get the pain but not the gain? If they were thinking, which clearly they are not, why not simply monetize all the debt? Buy it up with printed money. China and other investors would prefer that then an outright default. It would still debase our currency and make it difficult to get credit/loans. Probably somewhere down the line we will reprint and reissue our currency and it will be worth perhaps 10% of it's current value. I nominate Obama's picture for the largest bill in honor of all he has done for our country.

Chief Instructor said...

Anon - a couple of questions - I'm really trying to wrap my brain around this:

How would it devalue our currency? The cash the FRB gave to the Treasury is already printed and spent. No more money is being printed.

If they monetized all of the debt, THAT would clearly devalue the dollar (further) as those dollars would have to be printed up from air.

I can see how it would very much make it more difficult to get additional loans since the "full faith and credit" farce would have been shown for what it is. It would have to result in the US bond rating being slashed, so future debt would be more expensive.

It would be the honest thing to do, but we all know that would likely never happen!

Anonymous said...

Hey, Chief Instructor - you know one of your advertisers is pushing kiddy porn ( I would yank those pervs ASAP...

Anonymous said...

A default on our debt would most likely result in a "run" on the United States Dollar (USD), a fiat currency. The run would be hyper-inflation where the rest of the world would lose "confidence" in our currency (think Zimbabwe).

Will it happen? On our current pace, probably, but you won't know when. As everyone is probably aware, the current system is unsustainable. The Federal Reserve (NOT a branch of government) printing of currency out of nowhere is obviously not sound fiscal policy.

While political elections are Tuesday, Nov 2nd, the REAL vote happens on Wednesday at 2p.m. with the FOMC. Ben Bernanke and friends will decide the future monetary policy of The United States. Unfortunately, monetary policy at this point is completely experimental, add that Ben and Co. sent out a survey this morning to the Primary Dealers (financial institutions) that benefit from these Primary Open Market Operations (POMO's). Basically THE FED is throwing up its hand and asking these banks for input on how much to flood the market with.

End Game.

Chief Instructor said...

Anon 11:18 - I've never seen the ad hit the site, but I checked out the website.

Disturbing, to say the least. High School student, for Goodness sakes. It's been banned. Thanks.

Anon 4:53 - by "run" do you mean a mass sell-off by the world? Yep, very plausible. Lose confidence in the government, and you lose faith in its currency. Makes sense.

I personally think our system is "tinkered" beyond repair. Our government's actions may slightly accelerate or retard our crash, but it's gonna happen. Six months or six years? Who knows?

Anonymous said...

The value of our currency is determined by others, other countries and other individuals. A formal devaluation is nothing more then recognition of the obvious. Our problem is that our debt has finally exceeded both our ability to ever pay it off and to pay the reoccurring interest when rates move up from their artificial lows. We are in a state of limbo. The Democrats and many of the Republicans would have you believe that if we just drmatically increase taxes we could turn this around. This is bogus. First of all we all know if we raise taxes the politicians will simply spend it, they NEVER pay down the debt. And secondly our current debt is so enormous we are effectively bankrupt. If we took 100% of every citizens money it wouldn't pay off half our national debt. We are done. All that matters now is what we do next. WHat we should do is print the money, pay off the debt, go for a constitutional amendment to prevent anymore deficit spending, then devalue the money to whatever level is consistent with reality and try to move on from there.
What we will do is raise taxes on everyone, continue to spend wildly and even run up more debt with our new taxes and never take any decisive action about the debt and spending and the result will be a very long depression which will allow radical elements to be elected changin America forever. This has already begun. Obama didn't borrow $5 trillion to save us he did it to sink us and guarantee that no matter what we do next we are doomed. And that is where we are now.

Anonymous said...

"Six months or six years? Who knows?" -

That is THE question. This is why I stated that Wednesday Nov. 3rd will realistically determine the future fate of the country. Congress has made themselves irrelevant by giving the Central Banking System (The Federal Reserve for us) so much power.

If you "follow the money" so to speak, most Wall Street banks are technically insolvent. Unfortunately, Congress arm-twisted the FASB to allow accounting forbearance's with these financial institutions. On top of that, as in the instance of AIG, the government, aka taxpayers, become backers of the TBTF banking cartels. Run the numbers and you find their bankrupt. FDIC? They're just as bankrupt with their own record bank closing pace, but again, backed by The U.S. Government.

It's no secret, unless you're a main-stream zombie, of what is going on. 99% of the American population can barely balance a checkbook, let alone read SEC financial filings, add to unsavory accounting practices, allowed now, that would normally send people to jail. This isn't opinion, any credible CPA or tax attorney can tell you the same thing.

The fraud being committed is off the charts (just see foreclosures). So when you read "SHTF" type stuff, unfortunately for Mad Max type survivalists, the collapse will be by strokes of the pen. An intertwined series of agreements with Congress, The Federal Reserve and the Central Banking Cartels....follow the money (or the lack thereof in the case of The United States).

Lots of predictions out there for the "run", but no one knows. Historically, they just happens with absolutely no forewarning. The reality is, no amount of taxes, GDP (lol), or foreign influence can avoid a default without massive internal intervention, and that is political suicide, so take your own guess as to that happening.

Chief Instructor said...

Anon 7:31 - yep, we cannot tax and spend our way out of this.

A lot of what you're saying is my reasoning for deciding to focus my attention on local and state politicians. I'm not deluding myself any longer into believing Washington can be changed. It can't.

I'm resting my hopes on states re-asserting themselves and nullifying unconstitutional laws. I think this is our last, best hope.

Anon 4:59, the mark-to-market rule changes are criminal. You're right: If the balance sheet of any big bank were accurately reflecting the real world, they'd all be broke.

The FDIC, by law, would have to liquidate them. LOL! The Broke buying The Broken. It would be funny if it weren't our money.

Anonymous said...

Inflation will happen. And full employment if it becomes a highly inflationary environment. Not that anyone will be making money, since the prices of goods, especially foreign imports, will be rising faster than anyone's salary.

So, the day before the Fed decides to monetize the debt, is the day you turn all of your U.S. Dollars in for gold.