Mike sent me an email asking about the legality of a proposal Joe Weisenthal wrote about, for the Fed to tear up the T-bonds it holds (instantly reducing the Public Debt by that amount). I was dubious whether either the Fed or Tsy had the legal authority. But on second thought, who’s going to stop them? Why not tee it up, there is no third party with legal standing to challenge what would essentially be an intergovernmental transaction (and its rather unlikely the US Government would prosecute… the US Government).
As a political matter, I would frame the matter as the Fed governors altruistically donating the bonds back to American people instead of just “ripping up the debt”. One sounds civic-minded, like something Jimmy Stewart would do; the other sounds nihilistic, like something they’d do back in Mad Max-era Australia.
In any event, the Fed would just book the written off debt as a “negative liability” to Treasury and then never think about it again (in legal terms, this would place the debt in a rocket and then shoot it into the Sun). For his part, the Secretary of the Treasury would gratefully accept this gift on behalf of the American people (and maybe send the Fed governors a cheese wheel or something to say thanks).
“To provide the people of the United States with an opportunity to make gifts to the United States Government to be used to reduce the public debt… the Secretary of the Treasury may accept for the Government a gift of… an obligation of the Government included in the public debt made only on the condition that the obligation be canceled and retired and not reissued.” 31 USC 3113(a)(1(B)
Naturally I think it’d be better for Tsy to exchange a Trillion Dollar Coin or two for Fed-held debt. It’d be an asset swap that simply scales up existing coin seigniorage procedures without requiring the Market to wrap its hive-mind around the idea of trillion dollar “gifts to the United States Government”. On the other hand, the TDC would rob Ben Bernanke of the opportunity to look like the greatest philanthropist in history, so there’s that. Without a looser fiscal stance, I don’t think this or any other monetary policy will make much of a difference. However, there is an expectations channel to consider– if by use of TDG (or TDC), Tsy can shrink the Public Debt by trillions of dollars (without austerity!), we can expect it will be more likely Congress and the President will embrace more aggressive fiscal policy.