Where do we turn for relief during pandemic?
Who can do the most to help the economy recover: the Federal Reserve or Congress? Ironically, the economic question may be dominated by science. A vaccine to combat COVID-19 could do more to solve our financial problems than anything the Washington powers can create. A vaccine would not only be a health solution in the long run, but a confidence-booster in the short run.
Still, as debate starts to develop over another stimulus program, it’s important to know just what the government and the Fed can do — and the limits of their power. Despite our wish for a magic wand from Washington to solve our economic woes, there are limits. We just haven’t hit them yet.
The power of the Fed
The Fed can literally create money out of thin air! It’s no longer a matter of running the printing presses to get more money into circulation, though the Fed determines how many bills are printed by the Treasury Department’s Bureau of Engraving and Printing. The Fed actually employs its power to create money and liquidity out of thin air digitally — through buying bonds in the open market and making all sorts of loans to banks in the system.
The Fed has always had the power to participate in the global marketplace for U.S. Treasury bills, notes and bonds through the buying and selling of these securities for its own portfolio. There is more than $25 trillion of these securities outstanding, representing our national debt. The Treasury sells new securities weekly at auction to raise money to finance our deficits. The interest rates are set by the major buyers of our debt, including foreign central banks as well as bond dealers and major securities dealers.
When the Fed “pays” for the securities purchases, it gives a “digital credit” into the account of the seller. And that digital credit is newly created money put into the system, literally out of thin air. The Fed bought and sold government bonds regularly for decades, until the financial crisis of 2008-09 came along. Then they realized that to save the system, they’d have to purchase mortgage-backed securities — a real departure at the time, but necessary to save the financial system.
Then just two months ago, when markets seized up as the economy shut down, the Fed decided it would buy other kinds of bonds, and create lending facilities for commercial paper (short-term business IOUs) that are owned by money market funds. Recently, the Fed said it would buy ETFs (exchange trade funds) that own corporate bonds. Essentially, it announced it would buy just about anything to create new money in the system.
The Fed’s ability to create money is essentially unlimited — unless buyers of
U.S. government IOUs decide our promises of repayment are worthless, that the creation of so much money removes their trust in the buying power of the dollar. If the world turns against the dollar, which is the key measure of global trade, then the Fed’s game is over.
The power of the government
The real power of Congress is its ability to create programs that literally give away the liquidity created by the Fed, as well as creating tax incentives for growth, jobs and investment.
Amid the COVID-19 crisis, both parties and both houses of Congress came together to create a stimulus program that offered something for everyone. It wasn’t very well designed, but it did create relief.
It’s a huge task to provide economic security for Americans. A growing economy that creates good jobs will do more than the Fed and the Congress combined. That’s why the vaccine is so important. And that’s The Savage Truth.
Terry Savage is a registered investment adviser and the author of four best-selling books, including “The Savage Truth on Money.” Terry responds to questions on her blog at TerrySavage.com.