Monetary policy
The next step
THE idea that central banks might cancel their government debt holdings, or restructure them into zero coupon debt, is gaining traction. A speech by Adair Turner, a candidate to be governor of the Bank of England, was reported as alluding to the idea last week (although it certainly wasn't mentioned explicitly). Gavyn Davies, the former Goldman Sachs economist, discusses the possibility in his blog.HT: Abnormal Returns
It certainly seems the logical endpoint of the policy. In several previous posts, I have suggested that it is difficult to imagine how central banks will offload the bond piles they have accumulated. (There is no practical difference between selling the bonds and not reinvesting the proceeds when they mature; the private sector will have to absorb the bank's unwanted bonds plus whatever new supply the government is issuing that year. As there is no immediate prospect of governments eliminating their deficits, that would likely lead to indigestion in the markets and a big jump in yields. The central banks are unlikely to want yields to rise sharply any time soon. After all, the Fed has indicated it wants to keep short rates low until 2015.)
So central banks are likely to be the biggest single holders of government bonds for a while. And to the layman this looks rather absurd. The government is paying interest to a body that is an arm of itself, rather like a husband paying interest to his wife. It would surely be simpler to write the whole lot off. David Owen of Jefferies suggests how central banks will be able to find an economic justification.
The existing rationale for QE would simply be adjusted to say that unless debt service costs go to zero, there is a risk of inflation undershooting the target because the economy is simply too weighed down by debt. Is this plausible? Clearly we are in already in uncharted waters in terms of monetary policy, but the point which is being made is that whatever policymakers have been throwing at the economy up until now has not worked. Which means that the alchemy of central banks monetising debt should perhaps not be dismissed as such a far-fetched idea after all.Of course, this is not what the central banks say they are going to do. They have been very careful to buy bonds in the secondary market, rather than direct from the government. The latter step would be the dreaded debt monetisation practiced by Reichsbank president Rudolf von Havenstein. As Gavyn Davies points out, even Paul Krugman, an enthusiast for unorthodox monetary policy, finds the prospect alarming....MORE
AR says see also the FT's Gavyn Davies from Oct. 14.
As the man said, the idea is gaining traction though it is hardly new. Earlier this summer FT Alphaville linked to some serious commentary in "Debt jubilee for one and all — love, the Queen" (Roach, Buiter, Keen et al).
If you wanted to square the books, short of outright debt forgiveness you could resurrect the "Trillion Dollar Coin" plan that was making the rounds during the 2011 debt ceiling standoff.
(oddly enough the ceiling doesn't apply to coins, go figure)
Rather than the then au courant idea of depositing one or two of these beauties with the Fed and borrowing against them, the Treasury could sell them outright in exchange for T-bonds, notes, bills, lint in Ben's pockets etc.
The balance sheet would look something like:
Fed Treasury
3 magic beans World's greatest seigniorage score
And everyone lives happily ever after.
