Monetizing the Debt: Disinformation in the Blogosphere

August 6th, 2009 11:42 pm | by John Jansen |

I am not sure where to begin here. A blogger named Chris Martenson wrote a story which alleges that the Federal Reserve System is secretly monetizing the debt. The Zero Hedge Blog links to the story and describes it as a phenomenal piece of investigative reporting. The story also received coverage at the high profile left wing/progressive blog the DailyKos. The author there was nearly apoplectic.

The story is that the Federal Reserve in its Open Market Desk intervention today purchased $4,750,000 of the recently issued 7 year note.

The principal reason for the Open Market Desk’s purchase of so much of just one issue is simple and uncomplicated and it is not part of some Byzantine conspiracy. The Federal Reserve responds to that which the dealer community offers to them. Since the 7 year note was just auctioned the street would own far more of that issue in the narrow sector in which the Open Market Desk was operating today than of surrounding issues.

So to complete the operation quickly and cost effectively, they would opt to buy that issue. Pretty neat and surgical and quick.

I guess I am not so good at marketing myself as I wrote about this on April 2, 2009.  So there is absolutely nothing unique or special about today’s transaction by the Open Market Desk.

The reporting and discussions on the topic at some of the other blogs contain factual errors which should make one suspect the bona fides of the authors on this topic.

Here is the entire piece posted at Zero Hedge:

In a brilliant piece of investigative reporting, Chris Martenson (original article here) has uncovered that the Fed, merely a week after issuing $28 billion in 7 year bonds (which Zero Hedge discussed previously) via its puppet, the US Treasury, of which $10 billion ended up being purchased by primary dealers, has turned and bought 47% of the primary allocated bonds in Open Market Purchases. This is undisputed monetization removed simply via one primary dealer and less than 5 days of temporal separation in order to leave no easy trace.

The author (Tyler Durden) makes the statement that the Federal Reserve bought the bonds just one week after issuing the bonds. Anyone with a modicum of understanding of the process knows that the Federal Reserve does not issue bonds. The bonds are issued by the US Treasury and then the Federal Reserve purchases them in the “open market”.

Some will counter that the distinction is one without a difference but in discussing such an esoteric topic and in presenting oneself as expert on that topic one should get the facts absolutely correct. So to make the egregiously incorrect statement that the Federal Reserve issued those bonds should be a warning signal that the author has waded into an area where he lacks some expertise regarding fundamental and elemental facts.

At that point I would stop reading the story.

The Zero Hedge story also suggests (I think though I am not 100 per cent sure on this point) that the Open Market Desk bought the bonds from one primary dealer. I do not know how that information was derived and it is certainly possible but the more likely case is that the Open Desk bought the bonds from multiple dealers.

Enough on Zero Hedge and now some comments on the Chris Martenson blog story.

As I noted at the outset he is very late in unearthing the story.

Mr Martenson asserts that the Federal Reserve has quietly bought the bonds and secreted them away on its balance sheet. (That is nearly verbatim.) Well it does not appear that they did it so quietly or so secretly as he was busily posting the results of that transaction and discussing it in the blogosphere not very long after the transaction took place.

Mr Martenson also avers that a more honest and direct approach would have been for the Federal Reserve to buy these bonds directly in the auction.

Let me say that I am not entirely certain on the next point but at 1120PM I feel confident enough to write it: I believe that the Federal Reserve can only buy securities from the Treasury when it rolls over maturing holdings. The Treasury only resurrected the 7 year note in March and consequently the Federal Reserve would have no bonds to roll in the auction. Ergo there lack of participation.

I will make certain of that point in daylight hours tomorrow.

The internet is a wonderful tool for the dissemination of information. Sometimes, though, authors can publish information and bend the facts to suit some sensational purpose and in so doing distort reality and the truth.

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  1. 73 Responses to “Monetizing the Debt: Disinformation in the Blogosphere”

  2. By o.jeff on Aug 7, 2009 | Reply

    Thank you very much for your clarifying comments.

    Given that tax revenues are down and expenditures remain high, and given that the Fed’s March announcement called for $300 billion in purchases over 6 months, what do you think will happen next? Do you think the fed will simply announce a new program, perhaps $500 billion this time? Or, do you think the fed will back away, and thus, it would seem, interest rates would have to go much higher to attract buyers of the treasury bonds. Or, do you think that the government will go on a fiscal austerity program and eliminate the need for debt financing? (ha ha)

  3. By John Jansen on Aug 7, 2009 | Reply

    I think they will end the program. The purpose was to lubricate the credit markets and credit spreads have ratcheted in (in some cases to pre crisis levels.

  4. By hutch on Aug 7, 2009 | Reply

    in defense of zerohedge, i don’t see him saying that the fed issues bonds. he asserts that the treasury is the puppet of the fed and is consequently controlled by the fed. (if anything, i think that’s backwards.) his whole point is the monetization of the debt.

  5. By Vikram on Aug 7, 2009 | Reply

    John:

    I think the crux of the report was that without the participation of the primary dealers the 7 year auction may not have gone that well. Primary dealers could buy a lot more comfortable in the knowledge that the Fed was going to take the bonds off their hands, gifting them a few basis points in the round-trip.

    Could you have a look at the bid to cover, primary dealer bids and other metrics associated with the auctions to see if the primary dealers had to step up the plate to ensure a good auction after some disappointing results with the auctions earlier that week?

  6. By EDC on Aug 7, 2009 | Reply

    John,

    With all due respect, by the way I read everyone of your posts for the past two years… almost all anyway.

    Off topic but to your understanding does the FED have the congressional authority to purchase Fannie and Freddie Bonds?

    As far as the ZH story, your missing the point. Your using old school logic (which correct) to defend actions. That isn’t what they are trying to lead us with information on. Yes we know the Treasury calls the FED and says, HEY we have a bunch of bills/notes/bonds that we want some fresh minted FRNs for… walla transaction done. We get that but that isn’t the point of the story. Yes the publish the data and yes they are “monetizing” legal an illegal debt but that isn’t the story. The story is more on the lines of lack of transparency by the FED (which is why it needs to audited).

    The idea is that BTC ratios are dwindling and the circle jerk is getting old, so why doesn’t the FED just become transparent? What is to hide?
    Technically or not, the 5 year and now that 7 year auction could and should go in the books as failed. Why did the FED buy back those CUSIPs?

    “lubricate the credit markets and credit spreads have ratcheted in”…

    Our problem isn’t liquidity if it was then we SHOULD NOT celebrate Pre-crisis levels. After all it was something in the “pre-crisis” that caused the crisis.
    Our problem is solvency, FIRE/paper wealth destruction has wiped out the equity and now we have more debt supported by less assets in true value.
    When are the ivory tower economists going to get that we you can’t turn on a switch and loans turn on?
    The switch has no idea about FICO and Ratings or other risk based models. These models should be and are designed to make sure that the loans don’t get out of hand as the “chart” or switch that the ivory tower economists state. We can’t borrow to infinity, eventually just like in “pre-crisis” the risk causes the capital to get out of balance and the markets will realize the insolvencies and what do we have????

    Its ok, the FED can use as many band-aids to treat an patient with pneumonia, it has worked before and it will work again.

    Every time a blog tries to make a difference, the old school of thought seems to always try to correct it. Your fixing the wrong problem.
    Unless you believe your grand kids are better off with the bezzle continuing with the same circle jerk going on…

    Liquidity solves the short term solution that allows those who made the mistakes to risk more public money because they know it is a sure thing can’t lose deal. Joe/jane 6 pack got our back.

    Sometimes the old school thoughts make me wonder, why we follow the quote of Albert Einstein “doing the same thing over and expecting a different result” that’s insanity right? (maybe my quote was incorrect, so you can stop reading now….)

    Please.

    Disclosure, I have nothing to do with any blog mentioned. Just tired of DC, walstreet and want my country back.

  7. By Brian on Aug 7, 2009 | Reply

    John,

    The point was what I originally wrote about in the Financial Sense piece on Tuesday 8/4 … http://financialsense.com/fsu/editorials/2009/0804.html … well before Chris Martenson’s story surfaced. It is not that the Fed has been purchasing treasury debt since 3/25. Of course it has … it said it would … and it said it would purchase long term treasury debt.

    The point is that it has gotten to the point where the Fed is essentially lending directly to the Treasury … which is explicitly disallowed by the Federal Reserve Act (I corrected Martenson in his blog on this point). The Fed can only purchase securities at auction that are maturing in its SOMA portfolio. This is reported in the “SOMA” line of the Treasury Auction Results report. But when the Treasury can auction large amounts of debt and have the Fed support that auction by purchasing some of those same securities on the day of issuance, this in my opinion is violating the aforementioned section of the Federal Reserve Act. Not only that, it is more expensive for the taxpayer as there are middlemen involved (earning fees and commissions) … the primary dealers.

    Brian

  8. By jbr on Aug 7, 2009 | Reply

    Questions I hope you will help dismiss quickly:

    There seems to be strong +ve correlation between spikes up in the equity market and the Fed purchases of treasuries. Is it just coincidence?

    I would love to know if the dealers were a select group every time. Maybe this data should be disclosed by the Fed on a 2-3 month lag basis.

    Lastly, I don’t get it – why does the Fed have to make these purchases? You have said that – “The Federal Reserve responds to that which the dealer community offers to them”. I apologize for the obvious question – why do they need to respond?

  9. By Brian on Aug 7, 2009 | Reply

    The other point of my article was to provide explanation as to why the 7-year Treasury Note auction on Thursday 7/30 went so well in the face of poor 5-year and 2-year auctions the prior days.

    http://financialsense.com/fsu/editorials/2009/0804.html

    Brian

  10. By jbr on Aug 7, 2009 | Reply

    ok, I got some of my answers from the previous post you have linked to. Geez, I missed great opportunities to be long equities on QE days. The whole thing still sounds disgusting to me.

  11. By M on Aug 7, 2009 | Reply

    Zero Hedge sometimes discovers valuable information, but often shows complete or at least large lack of knowledge on exact workings. Even though they have no clue, they just scream out and pretend the whole thing is a sham, or a conspiracy, or both. It is a shame so much value is given to their words, and it is good to read someone with real understanding of the issues to clarify the nonsense.
    The more valuable your blog, as you stick to things where your knowledge is, and do not pretend to know about things you know nothing about. Thanks for that.

  12. By John Jansen on Aug 7, 2009 | Reply

    Brian,

    I do think I owe Zero Hedge a bit of an apology as I misinterpreted his comments about the Fed issuing bonds. On a rereading I see that he makes the point that the Treasury is the issuer.

    You mention that dealers earn fees and commissions. Wrong. They earn trading profits. They bought those bonds last Thursday and did not sell them until today. They were probably hedged and wedged nine different ways. There is no guarantee that the hedges worked and the primary dealers might have lost money. It all depends how they traded it.

    Unless you are suggesting that these are arranged trades in which the Treasury and Federal Reserve are parking bonds with primary dealers and guaranteeing them against loss.

    You would need to keep an army of people silent to perpetrate that conspiracy.

  13. By John Jansen on Aug 7, 2009 | Reply

    Brian,
    Regarding your statement that the Fed is lending directly to the Treasury, I made that point myself in the April 2 2009 post which I linked to. I entitled the piece monetizing the debt.

    And I will repeat that they buy the active issue because that is the issue which dealers offer in size.

    I think another way to look at it is that the dealers offer the recently offered issue on the market or very very close.

    if you required that the Desk inject the reserve by purchasing older issues that would actually be more expensive because they are more difficult to find in size and dealers will offer them at richer prices/yields.

    The cheapest and most cost effective way to do this is via the purchase of the active issues because delers own sizable amounts.

  14. By John Jansen on Aug 7, 2009 | Reply

    JBR,

    The Fed transacts business with the primary dealers. I believe there are currently about 17 of them and if you google I am sure you will find the most recent list.

    Every primary would participate in the operation. As far as I know the Fed does not divulge how much business they do with individual dealers.

    Regarding my “need to respond” statement. That was poor writing.

    What i intended to say and did not say clearly is that the Desk responds to dealer appetites in that they buy what is offered. In this instance they are buying large chunks of the 7 year note because that is probably what was most offered by the dealers.

  15. By Brian on Aug 7, 2009 | Reply

    John,

    Thanks for the reply. Personally, I think Zero Hedge is much too sensationalist and there were some errors in Martenson’s post.

    I understand your point concerning what the primary dealers are offering. Though, there have also been a number of purchases of much older securities. But regardless, the purchase of treasuries on their issue date is essentially the Fed lending directly to the Treasury. And this is prohibited. This is one of the points in my article on the Financial Sense site. And with the amount of purchasing of Notes with maturities around 7-years in and around last Thursday’s 7-year auction, it should be no surprise that the auction went well (much to most folks’ surprise last week).

    As for the fees and commissions, I should have said profits (as I did in the article) since they are dealing directly with the Fed in these transactions. However, when the primary dealers broker these securities to other investors, are you saying that they do not earn commissions (or just in the case of the sales to the Fed, which I agree)?

    Brian

  16. By GreenAB on Aug 7, 2009 | Reply

    love your work John,

    but you´re getting after the wrong people and i don´t understand your motives.

    there´s no way to put lipstick on this thing.

    “Unless you are suggesting that these are arranged trades in which the Treasury and Federal Reserve are parking bonds with primary dealers and guaranteeing them against loss.”

    that´s exactly what they´re doing.

    “You would need to keep an army of people silent to perpetrate that conspiracy.”

    come on, that´s not really an argument.

    as for ZH:

    they´re doing fine investigations, but sometimes pure bear propaganda too.

    occasionally i react with the same reflex as you do.

    but this time they have a point.

    remember the McCulley piece, in which he quotes a Bernanke speech?

    http://www.pimco.com/LeftNav/Featured+Market+Commentary/FF/2009/July+2009+Global+Central+Bank+Focus+McCulley.htm

    “My thesis here is that cooperation between the monetary and fiscal authorities in Japan could help solve the problems that each policymaker faces on its own. Consider for example a tax cut for households and businesses that is explicitly coupled with incremental BOJ purchases of government debt – so that the tax cut is in effect financed by money creation. Moreover, assume that the Bank of Japan has made a commitment, by announcing a price-level target, to reflate the economy, so that much or all of the increase in the money stock is viewed as permanent.

    Under this plan, the BOJ’s balance sheet is protected by the bond conversion program,7 and the government’s concerns about its outstanding stock of debt are mitigated because increases in its debt are purchased by the BOJ rather than sold to the private sector.”

  17. By John Jansen on Aug 7, 2009 | Reply

    Brian,

    Brokering suggests that primary dealers are taking no risk.

    There are certain instances when a primary dealer will broker securities to a customer and earn a return without having been at risk.

    However in the preponderance of transactions with customers the dealers have no guarantee of earning a fee.

    If Pimco shows up at asks for an offering of $ 100 million 10 year notes, the dealer earns nothinguntil he buys then back at a profit. And that aint always the case because markets move.

  18. By John Jansen on Aug 7, 2009 | Reply

    GreenAB,

    Thanks for being a reader.

    Regarding you belief that these are pre arranged transactions: you can muse about it and create all sorts of scenarios but there is no way that you can substantiate that very serious charge. Neither you or anyone writing this stuff has the evidence to support that claim.

    And I think that my statement that it would require too many people to be silent is quite relevant.

    You would need an army of people at the Federal Reserve, the Treasury and dealers to maintain radio silence. It aint happening.

  19. By John on Aug 7, 2009 | Reply

    well, the report demonstrates that the latest heavy auctions that went very well(after poor lighter previous auctions), are indeed suspicious. They were suspicious irrespective of this story because of their chronological illogical outcome.

  20. By manon on Aug 7, 2009 | Reply

    John,

    Thanks for debunking this. Comparing with the US, in the UK it appears that the majority of certain gilt stocks is now held by the BoE:

    http://ftalphaville.ft.com/blog/2009/08/06/65761/double-secret-qe/

    Would love to hear your thoughts on this. Thanks again for the great blog.

  21. By Johan on Aug 7, 2009 | Reply

    Is there such a need for conspiracy when Ben has sung out loud “I’ll be there for you”?

  22. By mattj on Aug 7, 2009 | Reply

    i regard the hyperinflationist and debt monetization cries as a sign of stupidity and ignorance. good on you for debunking bunkum!

    the 300bn the fed is buying is NOTHING in relation to the deficit or the money supply. if these morons cared to think, they’d point at the MBS purchases, which while trivial in terms of both GDP and the defict, are a at least nothing not rounding error.

    The fed could justify all their buying by saying “we’re keeping the ratio of fed to open mkt USTs stable”. it’s really nothing major.

  23. By ejsmith on Aug 7, 2009 | Reply

    this stupid and ignorant person would like to point out that $300B is around 15% of total government expenditures. Isn’t that something?

    Oh well…. back to being dumb.

  24. By Gary on Aug 7, 2009 | Reply

    John, while I agree that Zero Hedge is often pretty sensationalist — I find it disturbing how many Fed apologists there are in an industry that used to be (past tense) known for bond vigilantes

    The Fed could buy bonds directly from the Treasury, thus monetizing the debt — and as you pointed out in the past, this has happened to a limited degree.

    From an economic sense (and a monetary policy sense), the Fed could also “lend” money for 0% to banks that are insolvent and completely dependent on Fed “generosity” for their continued existence. The money center banks in the USA are the definition of a captive subsidiary.

    So having lent money to these captive subsidiaries at essentially 0% — said subsidiaries, which are independent from the Fed only on paper, then go buy many many billions of debt from the Treasury.

    While there is a legal distinction here (depending on what your definition of “is” is) — economically speaking, there is no difference between the Fed buying Treasury debt itself, doing so via a quasi private corporation (Maiden Lane LLC), or buying Treasury debt through a captive subsidiary that happens to have “bank” in its name.

    Clearly, almost all the money the Fed sunk into AIG is essentially just monetizing AIG’s losses — no one at the Fed or AIG is claiming that money will be recovered in full.

    Maiden Lane LLC is nothing but an off balance sheet way to monetize Bear Stearn’s losses. Its just an accounting entry that legally is off the Fed’s books, kind of like how the SIVs were “off” Citi’s balance sheet — but not really. Economically, all these off Fed balance sheet entities (including AIG, Maiden Lane and lets be honest BankAmerica) are economically on the Fed’s balance sheet. The Fed / Treasury will obviously be stuck with any losses, via nationalization if nothing else.

    The Fed also bought GSE debt by the billions — in the past the line betweeen FNMA and FHLMC, and the Treasury used to be somewhat blury, but today there is no economic distinction. The Fed buying debt from the GSE’s is no different from the Fed buying Treasury debt and then the Treasury using that money to “buy” agency debt (from itself). Its all just an accounting entry — an inter-department transfer within a single large corporation.

    Its really embarrassing that Wall Street professionals are still trying to deceive the public with over-complicated accounting transactions — complicated well beyond any economic need. They are complicated to conceal the Fed’s monetization of trillions of debt throughout the system.

    People with no money cannot pay back debt– that is just common sense. The debt either has to be written off (paid off by the lender) or taken on by the US Treasury (socialized losses) and monetized. The banks do not have anywhere near enough equity to write / pay off the loans themselves — so writing off the debts isn’t possible. If the banks wrote off all their losses in one year, there would be no way to avoid nationalization of every one of them. The only way out is to socialize the losses — but the Federal government doesn’t have actual (not borrowed) money to write / pay off the loans either. So monetization is the only way out

    The problem is that Federal regulators would have to admit that they were hopelessly asleep at the switch. One bank failing is a management failure. System wide failure means exactly that. It wasn’t one regulatory body or one member of Congress.

    To save face, the regulators are using all sorts of over-complicated accounting to conceal the requirement to monetize trillions in past mistakes

    Whether the Fed does this directly or via a captive subsidiary is irrelevent

  25. By Stuart on Aug 7, 2009 | Reply

    The issue is not so much direct monetization, this is not credibly argued as even the Fed has acknowledged it will monetize $300B, the issue is they are vastly overstating, deliberately manipulating perception of strength of demand. The PDs basically flip these purchases and in the process making it appear that “raw” demand is much greater than it actually is. There is no way the Treasury and the Fed wanted two defacto failed auctions. Have the PDs take more under the assurance you will buy them back upon settlement, voila, the Fed came as close to buying Treasuries directly as it could without being a direct participant in the original auction. This is what the Chris Martenson article showed without debate. The PDs bought these treasuries on behalf of the Fed as a middle man… Gimme a break. That’s close enough to be in violation of Section 14 regardless of how it is spun as they were just convenient issues to soak up given they were recent.

  26. By jimschroed on Aug 7, 2009 | Reply

    Gentlemen; we can paint this picture in many different ways but the macro problem remains that as an economy we do not have the growth to support the level of public and private debt. Either we are on the verge of a very large default/collapse or we will inflate our way out of this mess. It is not what the FED chairman says, it is what he does and I am sure that he has his team working on how to engineer the reflation of our lifetime. Auditing the FED is long overdue.

    Jim

  27. By wtl on Aug 7, 2009 | Reply

    It seems like the *real* issue behind the “surprisingly good” 7 year auction last week isn’t the Fed’s repurchase, but the Treasury’s recent recharacterization of “indirect bidders”:

    http://www.reuters.com/article/bondsNews/idUSN2425368520090624

    Browbeating the primary dealers may have been necessary, but they participated:

    http://www.reuters.com/article/companyNewsAndPR/idUSN3036369120090730

    providing good “headline numbers” before reselling to the Fed. Whew… confidence restored :-)

    Would you agree?

    Ultimately, though, the PDs are taking a risk and appear to have taken a small loss on the transaction… the price at which they sold to the Fed was actually a bit lower than the price at which they purchased from the UST…

  28. By Jim R on Aug 7, 2009 | Reply

    “Neither you or anyone writing this stuff has the evidence to support that claim.”

    Absence of evidence is not proof of anything so neither side has proven anything.

    However, as Taleb would point out in his little Tony and the quant vignette.

    Given a 10 coint toss scenario, Tony and the quant are told its a fair coin and the last 9 tosses turned up heads. What’s the next toss going to be?

    The Quant says the trials are independent and the next toss will be a 50/50 probability.

    Tony the streetwise guy says “It’ll be heads. No way 9 out of 9 if its a fair coin.”

    The bonds have ended up on the Feds balance sheet. Are you Tony or the quant?

    Jim

  29. By daveinSV on Aug 7, 2009 | Reply

    John, I arrived in from work (West Coast) and won’t have time until late in the day to get to all of the comments, but a “Big Thanks” in advance for addressing the issue.

  30. By John Jansen on Aug 7, 2009 | Reply

    wtl,

    Here is a link to a piece i wrote on indirect bidding which is quite misunderstood, atleast the recent change. http://acrossthecurve.com/?p=6629

  31. By Doug P on Aug 7, 2009 | Reply

    John, any comment on the fact that the amount offered by the PD’s in yesterday’s POMO, $48.25 billion, was the largest amount offered into a POMO since the program began?

  32. By Will T on Aug 7, 2009 | Reply

    John,

    I think you’re missing the big picture on the ‘Fed cannot issue bonds’ issue.

    So the Fed is not authorized to issue bonds. But if they wanted too, how would they get around these pesky little laws? Have Treasury issue them and the proceeds get deposited at the Fed. Same effective result. They simply coordinate their actions. The Treasury and Fed have been coordinating actions for more than a year now.

    Again, the big picture: the independence of the Fed from the executive branch that once existed is no more.

  33. By Bman on Aug 7, 2009 | Reply

    I would add that we are still at a point where the markets are only functioning “normally” in the presence of intervention and stimulus. At some point, Banks, and other companies, will need to function profitably on their own, primary dealers included. Bid/ask spreads may widen at that point for a while, but the world will keep spinning. There has been easy money made here, both in rates and equities due to the Administration’s transparency. Let’s face it – when the President of the United States comes out and says buy stocks, do you really think there will not be a supportive flow behind it to back it up? I still believe rates are going substantially higher and will continue to stay short.

  34. By Michael on Aug 7, 2009 | Reply

    Thanks, John, for the clarification. Your blog is a must-read on these sort of things.

  35. By Tin Foil Hat on Aug 7, 2009 | Reply

    Sadly , the Tin Foil Hat conspiracy theorist , Tyler Durden at Zero Hedge , has gotten a big following , like his “comrade” in arms Barry Ritholtz , and the uneducated Mainstream Media ( Taibbi , any idiot write on Huffington Post , etc. ) follows them like sheep

    .

  36. By conspiracy theorist on Aug 7, 2009 | Reply

    The un-educated “press” loves a story , and what better story than a conspiracy

  37. By Doug P on Aug 7, 2009 | Reply

    Yes, Zero Hedge is prone to histrionics and pole vaulting to conclusions.

    What do you think of their work on HFT/Flash trading? Seems to have gotten some legislators interested…

  38. By Bob on Aug 7, 2009 | Reply

    Are we confusing words with meaning here? Monetizing the debt is about creating money out of thin air by purchasing Treasuries so the free market doesn’t have to re-allocate capital into newly issued debt.

    Who cares how the mechanics of that operation work. The fed has admitted on their web site they are “creating reserves” to make these purchases. I don’t have time to look it up — it’s in the FAQ about their Q/E program under something like “Are these operations reserve neutral”.

    So they pick and chose some choice words to distract the reader from the reality — they are creating money (i.e. the printing press) to buy securities and take them out of the open market.

    In any other day and age, that would be well understood as “monetizing the debt”. Looks like the bloggers simply made the mistake of sensationalizing it and tried to make it out as some sinister under cover operation. All they would have had to do is point out the open and blatant activity that the fed freely admits to, except ol’ Ben testifies with subtle lies (like Clinton’s strategic use of “is”) that they “aren’t monetizing the debt.”

    Yes, they are.

  39. By Bman on Aug 7, 2009 | Reply

    Bob, I agree. Many are spending too much time and effort trying to fight it. Never forget the old adage – “don’t fight the Fed…” Don’t get me wrong – I think it sucks – jeopordizing the future, etc… but they have telegraphed their moves for us and given many a chance to make some money back. These opportunities do not come along that often.

  40. By Bob on Aug 7, 2009 | Reply

    +1. I concluded the same thing about a year ago. They are destroying the country and the only two things I can do is go hide in a cave or use their corrupt system to get some of my future tax money back today.

    The bond market is the place to be in this phase — thanks to acrossthecurve for helping keep a pulse on the action.

  41. By sandy on Aug 7, 2009 | Reply

    shame on you! i guess these are the “don’t let a good crisis go to waste” crowd.
    the fed sucks and needs to be audited. they are stealing and just because some of you might make a short term profit you are selling this country out!

  42. By Bman on Aug 7, 2009 | Reply

    Yes, thanks John. It is (or was) a free country, so I can appreciate the rights of others to jump on you when you say something out of context. But I appreciate your efforts to get information, and always appreciate hearing your point of view as well as others.

  43. By Bman on Aug 7, 2009 | Reply

    Sandy, bull-****. Everyone has access to PUBLICLY-traded markets. Use the free-market system while it still exists. Use Interest rate futures or ETF’s to hedge yourself. Use equities/ETF’s for the same purpose, or for growth potential. If you have a fear or belief, don’t stick your head in the sand – act on it. You are not ruining the country. They have stepped-up short-selling rules. Besides, a small retail order either way is not illegal and is not going to bring down the system – it is your right.

  44. By Cedric on Aug 7, 2009 | Reply

    The Fed and the Treasury are tag team partners. No conspiracy there.

    And since Fannie and Freddy have been nationalized, I think we should add the planned Fed purchases of $1.2T of MBS and $200B of GSE corp debt to the $300B of T-notes&bonds when trying to gauge if this is a significant amount of money.

    And they have stated the goal of these actions are to manipulate interest rates down in both treasury and mortgage markets. So this goes beyond adding “liquidity”. And it may pay for some insolvency because we have a rather high default rate on even high quality MBS. Then the are all those other programs and collateral the Fed took, on the pretense that the credit ratings were accurate, and everyone knows that not the way the credit agencies were doing things. That is the reason some are calling for an audit of the Fed, I believe. Plus we have effectivly taken a big step towards nationalizing the mortgage industry, with interest rate subsidies paid for by the taxpayer, some day.

    So it’s all legal maybe, but the Fed had to invent another program, paying interest on excess reserves held at the Fed by the banking system. Ben now points to this as his favorite mechanism for an exit strategy. He recently said the Fed will hold long term stuff to maturity so as not to scare the crap out of the markets.(so we should believe this is not “printing money”, if it disappears by itself in the distant future?). So that means somehow the Fed needs to come up with money to pay interest to banks. Borrow from the Treasury? Here is where I think the public needs to ask more questions.

  45. By pete hoberman on Aug 7, 2009 | Reply

    john….you seem to be missing the point. who cares about the intricate details of the fed buying this or the treasury buying that….i dont give (an expletive deleted by editor) about the legalities or lack thereof.

    the issue is …this is all a game to keep the ponzi going.

    you try and defend the process? get real….

  46. By Mr White on Aug 7, 2009 | Reply

    John, thank you for shining so much light on the issue. Having first read the ZH post, I, like you, stumbled across the passage where TD claims that the Fed had issued bonds it later bought up.

    Going through the comments in the ZH entry, specifically the one by Andy Dufresne (http://bit.ly/Q5KLp), it seems as if the passage originally went like this:

    “that the Fed, merely a week after issuing $28 billion in 7 year bonds (which Zero Hedge discussed previously) of which $10 billion ended up being purchased by primary dealers, has turned and bought 47% of the primary allocated bonds in Open Market Purchases”

    So, this passage has probably been edited after publishing, and without notice. Not to nitpick, but this is bad style, at the very least.

  47. By Bman on Aug 7, 2009 | Reply

    Pete – what do you suggest the ponzi is, and what do you suggest is done about it?

  48. By omi on Aug 7, 2009 | Reply

    Zerohedge has some interesting posts from time to time, but I wonder if GS runs the website :)

  49. By conspiracy theorist nutcase on Aug 7, 2009 | Reply

    Pretty soon , Mike Taibbi will write another of his conspiracy-laden stories without even understanding how the markets work and how the players interact

    His missive will probably center around Goldman Sachs , and Taibbi will drop in a few “Protocols of the Elders of Zion ”

    He’s a hack in the ways of the muckrakers

  50. By Tyler K on Aug 7, 2009 | Reply

    great, now we have some conspiracy theorists here …. and some of them are nutcases too!

  51. By RichL on Aug 7, 2009 | Reply

    It’s too funny to paint primary dealers in govts. as a part of a conspiracy. It’s a market, and as plain vanilla as it gets.

    That’s why the profitability in the business is so poor. Dealers drop out from the designation over the years and aren’t missed. It’s not a ticket to wealth, and for some firms the “prestige” of being a primary dealer has led to significant losses.

    Government securities are the vehicle by which the Fed adds or detracts from the money supply. They have no choice but to use the dealers in the market to effect policy.

    If repos or outright purchases/sales of govts. have an effect on money supply, it’ll show in the m-1 or other monetary aggregate figures. The effect is VERY obvious and published weekly. And it’s been this way for decades.

  52. By Phaesed on Aug 7, 2009 | Reply

    So let me get this straight….

    The Fed purchases 10.5% of all treasury issuances in 2009. No big deal.

    The Fed changes methodology to assuage public opinion on the state of this funding and make them believe funding ability is strong. No big deal.

    The Fed alters employment calculations to make the system seem better and then revises them a quarter later so people will not remember 30 years from now. No big deal.

    The Fed alters CPI methodology and then when even that won’t work, they start to exclude numbers and call that “core” inflation… excluding the two items that ALL americans use and constitute two major portions of their budget… Food and Energy (Housing being the only other major portion). No big deal.

    The Fed is engineering auctions for the US to sell treasuries and then has the US buy them back at a cheaper price a week later. No big deal.

    So I guess after all that… the only big deal is if the market actually crashed like it should have and real prices should be found. It sounds like you don’t care about anything except your 401k… nevermind the fact that your children will receive the same exact amount of funds, it’ll just be worth 1/5th the value (or so). Hiphiphooray for the US of A.

  53. By John Jansen on Aug 7, 2009 | Reply

    Rich L,

    Thank you and Bravo.

  54. By John Jansen on Aug 7, 2009 | Reply

    Phaesed,

    The Federal Reserve has absolutely nothing to do with employment calculations.

    And the Federal Reserve has zero connection to the CPI methodology.

  55. By Phaesed on Aug 7, 2009 | Reply

    So it was a coincidence that in 1982 when broad based banking went fully in effect and Volker “broke the back” of inflation… the cpi methodology used to guage inflation changed? Or that in the 90’s when we started experiencing structural unemployment that Clinton changed the numbers? Sure there’s no “proof”, but calling a red, ripe fruit hanging off a vine that happens to taste like a tomato anything but… well, it could be a strawberry.

  56. By Phaesed on Aug 7, 2009 | Reply

    Additionally, please understand the Treasury = The Fed for all relevant purposes in my opinion. One is definitely run by Goldman Sachs, the other is just owned by them.

  57. By glen on Aug 7, 2009 | Reply

    did Bernake commit perjury? from Kdenninger

  58. By glen on Aug 7, 2009 | Reply

    whoops…I am very sorry. I loaded the wrong youtube vid..If you are interested in the right one, you can get Kdenninger on youtube…

  59. By glen on Aug 7, 2009 | Reply

    wrong video, please delete…

  60. By Rob on Aug 7, 2009 | Reply

    John et al.

    The issue is not monetizing the debt. Clearly they are doing that (despite what Bernanke is saying). The issue is around that 7 year auction. The 5 year auction the prior day was a failed auction for all intents and purposes. So the 7 year had a lot of attention to it.

    Look back at your own posts – pre-auction you yourself thought the auction would go badly. But yet it had a strong bid. How do you explain that? Reading your own explanation on this site, you had some pretty weak rationale.

    I understand you used to work at the Fed, so are predisposed to believe the best of them, but the results of that auction were very suspicious to myself and a lot of others in the market. To see those bonds sold to the Fed the very next week smells very, very fishy.

    The Fed can monetize all they want, but to juice Treasury auctions? Not good.

  61. By yoganmahew on Aug 8, 2009 | Reply

    To add to what Rob is saying (and I think he is at the nub of the issue), as I understand it, the 7-year had a decent yield. Why would you want to sell something with a decent yield when you are also holding paper from late last year that has declined in price?

    It just doesn’t smell right that:
    1. A longer dated auction succeeds where two shorter ones have done badly.
    2. The issue of that longer auction is immediately bought by the Fed.

    Could it mean there are big price moves coming?

  62. By Chris Martenson on Aug 8, 2009 | Reply

    Hello, Chris Martenson here.

    [Note: I left a similar comment at Naked Capitalism]

    Just wanted to say that while I applaud the interest in this subject, and I am in awe of the knowledge on display here, I believe that some of my words and intent have been taken out of context or misinterpreted.

    1) My only point in raising the specific 7-year CUSIP purchase by the Fed last week was in the context of the troubled 5-year auction being followed by a miraculous 7-year auction that now appears less-than-miraculous due to that fact that the fed took 47% of the Primary Dealer take off their hands a few days later. Yes, that’s a dot-connection that seems entirely relevant to me not because it reveals a greater degree of manipulation (the $1.25 trillion MBS target seems a tad larger to me…) but because it possibly reveals that there’s rebellion brewing in the Treasury auction world. While this may be over-reaching, it could also be legitimate spoor to be read as we try and illuminate some of the path before us. I was not, repeat not, making any overt claims about the extent of monetization in my post, just that one odd coincidence concerning the 7-year auction. I do collect and have all the base data for all the auctions and I track them closely and the Fed is very much on track with what it said it was going to do so there’s not much of genuine interest there for me yet. But stepping in to assure a “good appearance” at a critical auction. I consider that quite interesting and newsworthy.

    2) My comment about “A more honest and open approach…” for the Fed to pursue, as my long-time readers will attest, was not a comment about what is legally permissible by the 1913 FR Act (yes, I’ve read the whole thing) or normal operating procedure (yes, I know how the Fed & Treasury operate) but rather just another statement about another way that complexity obscures our official monetary and fiscal actions. I regularly opine that we would be better off by being more straightforward in our official reporting and actions. I honestly didn’t know that this piece, out of the thousands that I have written, would catch a bit of internet-lightening and so I wrote a quick piece with my usual audience in mind. In retrospect I wish I would have framed that sentence a bit more because it is now being bandied about as proof that I don’t know how the Fed actually operates and, therefore, the rest of the piece (and maybe more!) is bunk as well. Ah well, such is life on the intertubes.

    So that’s it, I think it smells that the 7-year auction seemingly went so well the day after the 5-year fiasco and then days later we find out that the Fed bought nearly half of the total load carried by the Primary dealers.

    Perhaps it’s just a quirk in the largest bond auction week in history, or perhaps it portends a dangerous shift in Treasury appetite and is a sign that the greatest bubble of them all (Treasuries) has a small tear developing at the edge. I will continue to track the edges of this fascinating story because I personally don’t want to be in the position of someday reading about it above the fold in the NYT with everybody else.

  63. By Woodshedder on Aug 8, 2009 | Reply

    http://www.zerohedge.com/article/open-market-operations-and-statistics

  64. By SWRichmond on Aug 9, 2009 | Reply

    John,

    You seem to rely on this “impossible numbers required for a conspiracy” idea. You’re not really that naive? When so many are losing their jobs, when government is the only one hiring, creating a “conspiracy of self-interest” among government employees and bankers is a simple matter. It’s not even a conspiracy. Whistle-blowing is suicide, everyone knows it.

  65. By John Jansen on Aug 9, 2009 | Reply

    SW,

    I lost my naiveté around 1969. I have been cynical ever since.

    My granddaughter is six months old and brimming with innocence. I am enjoying her presence but fully intend to address the mechanics of such a conspiracy and i believe that I can demonstrate that it is unworkable.

  66. By Chicken on Aug 10, 2009 | Reply

    Mouse click, mouse click, poof big pile of money to spend on stimulus and pork. Government grows and economy shrinks, taxes increase Treasury receipts fall off a cliff, mortgages default, the little guys go bankrupt and the big guys report record profit (except BAC, bahhha-bahhha).

    So I guess we’re all left wondering who’s buying all the treasury paper, where the money is coming from, and how on earth it will be repaid.

    Any ideas? I don’t know anyone who seems to know but my living expenses have actually increased during this recession.

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