America's Ad Hoc Fiscal and Monetary Policy

What is this Supplementary Financing Program, under which Treasury is essentially lending money to the Fed? Does it mean that the Fed's run out of money, as Paul Murphy would have it? Does it mean, pace Tyler Cowen, that central bank independence is gone and that American government has become dysfunctional? Alternatively, looking at things from Yves Smith's point of view, has Ben Bernanke started up the printing press? Will the program mean a huge uptick in spending and therefore in the budget deficit, with potentially disastrous echoes of 1966? Or is it simply, in the words of the Treasury press release, no more than a "liquidity initiative" with essentially zero fiscal implications?

All answers gratefully accepted. Because I have no idea.

I certainly see no useful distinction to be made right now between Treasury and the Fed: just look at the AIG bailout, where the Fed is providing the line of credit, but Treasury gets the equity warrants. On the other hand, I think that's a good thing. Central bank independence exists to prevent politicians from determining monetary policy -- but when it comes to regulatory arm-twisting and game-changing bailouts, you want Treasury and the Fed to be on exactly the same page. Similarly, I see no way whatsoever in which hyper-politicized kibbitzing from the Federal legislature at the height of election season would be anything but noisy and unhelpful. Insofar as America's Congressional representatives are letting the executive get on with things, good for them.

I suspect that when the dust has settled, we'll have seen a lot of money being moved around in circles, but we won't have seen a significant increase in actual government indebtedness. Contingent government indebtedness, yes: there's now an implicit sovereign guarantee not only on Frannie but also on AIG. But the good thing about contingent indebtedness is that it doesn't cost any money up front. And in the meantime, thanks to the FTQ trade, US borrowing costs have never been lower. Which is a good thing, fiscally speaking.

All the same, one does get the distinct impression that Paulson, Bernanke, Geithner & Co are making this up as they go along, and that they're very much behind the curve. If the US government needs to borrow billions of dollars to make this crisis go away, it will: short-term necessity will override any concerns about long-term indebtedness. That's the way it always is, in crises. And frankly I'm glad that at least the US government still has the ability to borrow essentially unlimited amounts of money to sort these things out. Because no one else can.

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