Quick and Dirty Update on Platinum Easing Discussions

Interesting discussions.
 
One way of looking at this is to consider analogous exit plans.
 
For conventional QE exit, the Fed must sell bonds into the market.
 
For platinum QE exit, the Fed must sell platinum back to Treasury.
 
The implication of this is that Treasury must refund its original platinum funding with bonds – in order to pay back the Fed from its TGA account.
 
Thus, both CQE and PQE exits require the sale of bonds into the market – existing bonds and new bonds respectively.
 
It’s the same exit requirement from a monetary standpoint.
 
Returning to original QE “entrance”, it is a FACT that analytically one can achieve the same funding result for the cumulative deficit under either conventional or platinum easing.  (Mike and I have both summarized this in separate posts). That funding result is expressed as a mix of reserves, currency, and bills/bonds.
 
However, analytically, it is important not to confuse ex post and ex ante cumulative deficit comparisons in the illustration of this equivalence:
 
The issue that motivates consideration of PQE is the risk of debt ceiling impasse. That risk threatens to shut down the government – because it imposes an obstruction to already approved spending by shutting down the normal bond channel for deficit financing. PQE is a considered response to the dysfunctional shutdown of spending that Congress has already approved.
 
Therefore, in comparing the technique of PQE with CQE, one must consider the ex ante scenario of continued deficit spending – as that is the situation that PQE is designed to address.
 
In this regard, deficit spending can proceed in conjunction with the implementation of either form of QE. In that scenario, the result of CQE and PQE is the same in terms of ultimate funding mix for the cumulative deficit.
 
CQE takes bonds out of the market in parallel with Treasury issuing them.
 
PQE holds market bonds constant in parallel with Treasury not issuing them.
 
Same result.
 
I think there’s been some analytical confusion in cases where an attempt has been made to compare PQE  with CQE, while holding the cumulative deficit constant – i.e. prior to the deficit spending that PQE is designed to enable. That won’t work – and it doesn’t need to – because PQE is by design a potential antidote for the obstruction of ex ante deficit spending by a debt ceiling impasse.
 
And the reason the analysis won’t work – and doesn’t need to – is that PQE is designed to inject Treasury balances prior to spending and actual deficit creation – so one needs to work through that scenario in which the objective of facilitating further spending is accomodated in order to compare properly the cases of CQE and PQE .
 
Now, an interesting point has been made (by commenter James) about the quality of the asset held by the Fed in each case.
 
In this regard, asset quality depends on fiat capacity in the case of either bonds or platinum.
 
CQE assumes a capacity to sell bonds from Fed inventory on exit. PQE assumes a capacity to issue new bonds from Treasury on exit. Both assume an original capacity to have sold bonds into the market prior to the assumed event of either form of QE.
 
These are all fiat based capacities.
 
There are two minimal type arguments for fiat power:
 
First, you can always credit bank reserves (operationally) to pay off a bond – that’s a liquidity argument.
 
Second, you can always tax to adjust and/or pay down the cumulative budget deficit – that’s an equity/capital/solvency argument.
 
Similarly, the capacity for Treasury to deposit /sell platinum to the Fed is a fiat capacity within the internal institutional organization of government.
 
Putting that all together, its fiat, fiat, fiat.
 
Thus, there is really no difference in the fiat underpinning of CQE or PQE.
 
Finally, regarding policy:
 
Love it or hate it, CQE is a response to unusual economic stress at the zero bound.
 
PQE responds to operational stress due to debt ceiling dysfunction, which becomes a further risk for economic stress.
 
So the ultimate risk management motivation is the same.
 
Arguably, PQE requires more operational coordination between Treasury and the Fed.
 
But that does not threaten the existing framework of Fed policy independence – because that characteristic is a function of the Fed’s role in setting the Fed funds target, and using unconventional techniques as necessary at the zero bound – techniques that may be necessary for macro risk management under economic stress.
 
Therefore, given the demonstrated technical compatibility of the two easing modes – CQE and PQE – it follows that risk to the integrity of institutional responsibilities and to the robustness of the monetary policy framework ultimately is not an issue.
 
One last technical point – PQE leverages up already completed CQE due to operational risk associated with debt ceiling inflexibility. It may therefore leverage up overall QE to a degree not otherwise intended under CQE.  If that happens, there is a policy adjustment available to accomodate that. That is –  the Fed can issue term deposits to match the term structure that might otherwise have been associated with bond issuance. The only difference is that PQE will capture that protective term structure via banking system intermediation – as opposed to largely non-bank absorption under bond issuance.
 
Finally – once again on this issue of Treasury/Fed operational coordination in the context of Fed policy independence – there is an intriguing precedent of sorts here:
 
In the early stages of the financial crisis, the Fed undertook “credit easing”, in which it effectively swapped government bonds it held for financial claims on the private sector. It began to run low on bond inventory as a result. When this happened, it started to create excess reserves beyond the desired level – which was a problem because the authority to pay interest on reserves was not yet in place. That resulted in some loss of effectiveness in the interest rate control function. So, prior to getting that authorization to pay interest on reserves, the Fed requested that Treasury issue a special tranche of treasury bills – in order to drain reserves- which it did, parking the money in its TGA account at the Fed. That reserve drain had the desired effect on rates (or at least helped to improve the situation). In other words, Bernanke asked Geithner for help in coordinating monetary policy implementation. But nothing was sacrificed in terms of the actual independence of policy formulation itself.
 
See the comparison?
 
This time, it would be Geithner asking Bernanke for help, but without necessarily sacrificing the integrity of the existing differentiation of policy responsibilities between Treasury and the Fed, given the technical tools available for operational coordination.
 
This whole thing is becoming less far fetched using rational analysis of consistent policy and technical feasibility.
 
But of course its unlikely to happen.
 

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BF
3 years 11 months ago
Hi James, What are your views on what the US Fed did in 2008 in respect to the Bear Sterns takeover and AIG? I do not recall those quasi-fiscal bailouts being signed off by congress in any legislation. It would be duplicitous to suppose that it’s okay for the Fed to bailout big finance as it pleases up to whatever amount it deems necessary all without congressional approval or oversight but find matters objectionable if the Fed were assist the Treasury to avoid something as preposterous as the fiscal cliff. I know not of your views on the Fed’s behind closed bailouts. If the past is any guide US politicians will pontificate and then arrive at some compromised position to raise the debt limit. But let’s think just for a moment what could happen if no agreement were to be reached. Okay, with no agreement to lift the debt limit, the US Treasury would before it maxed out its debt limit hastily re-organise spending commitments to meet only those absolutely essential. But what are the US federal government’s essential services? Should the government stop paying the wages first of doctors or military personal serving overseas or homeland security officers or teachers? Will everyone take a massive pay cut or just work for free? Mass public sector layoffs might not be good for economic growth. Presumably, the US Treasury would want to remain current on its debt liabilities, or else what would happen? Quite possibly if the US government were to default the carnage in global financial markets would make the bankruptcy of Lehman Brothers look like a storm in a teacup. If the US government were to default how many notches would private credit agencies downgrade? Pension funds might have to sell all T-bonds due to ratings downgrade to junk… Read more »
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James A. Kostohryz
3 years 11 months ago
JKH: I think you have clearly understood one of my main objections to TDC: Namely that QE and TDC are fundamentally different in that under TDC, to state the matter in its most simple terms, the Treasury “gets something for nothing,” whereas under QE, this is not the case since a debt obligation was established. You have also understood my argument regarding the institutional damage that would be wrought by TDC. However, by digging deeper into the heart of the matter, your arguments in this essay ultimately serve to strengthen my points and thereby weaken the case for TDC. 1. The equivalence between TDC and QE that you are attempting to construct in this essay depends upon there being a requirement for “exit.” A critical component of my argument assumes that the Treasury is NOT restricted in this way — i.e. that it can simply sell the coin to the Fed and that it is never obligated to buy it back. If you build into the TDC proposal the REQUIREMENT that the Treasury buy back the coin at face value at A SPECIFIC DATE, then the argument for equivalence is strengthened (though not all the way). This would be the functional equivalent of the maturity and redemption of US Treasury bonds held by the Fed. However, if you do not build in the requirement for “exit” then TDC and QE are fundamentally different at the most essential level. So here is a question: How do you build in a requirment that the Treasury actually buy the coin back? Well, you in fact cannot do it, unless Congress passed legislation to that effect. But, to assume such legislation as part of a TDC proposal would be patently absurd since the whole point of TDC is to evade congresisonal authority regarding increasing… Read more »
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JKH
3 years 11 months ago
James, 1. The undertaking in whole is a mutual arrangement between Treasury and the Fed, along the lines of the cooperation indicated in the reference to Bernanke and Geithner. This covers both both entrance and exit plans. 2. The Feds’ commitment to conventional QE exit does not require Congressional approval. (Neither does its commitment to low rates). With Treasury cooperation, neither should PQE exit as a matter of joint Treasury/Fed undertaking. 3. Treasury has no reason not to cooperate with the Fed on both entrance and exit plans, and vice versa. PCE entrance is rationalized by a Congressional impasse on the debt ceiling. And if adopted, PCE exit is planned and contingent on the lifting of that impasse. This is not a rogue operation by either the Fed or the Treasury. They’re in it together, however it is interpreted. And both are capable of agreeing to resume normal Treasury funding operations when Congress gets out of the way. In total, including commitments and technical equivalence as described, that might be a package that in theory is at least more marketable to the public than facilitating Congress driving the country into another recession. 4. Congress can intervene in the operating relationship between the Fed and Treasury at any time in either direction. The whole CTRB idea is premised as an institutional structure option that Congress could exercise in the direction of a more permanent fiscal/monetary policy integration and easing of the existing bifurcated constraints. Presumably it can go in the other direction and heighten the existing bifurcation as well – by precluding joint Treasury/Fed operational cooperation in this case. But that’s an option, not an inevitability, and it would still face issues of public perception over the degree of political brinksmanship required to impede the financing of already approved expenditures –… Read more »
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James A. Kostohryz
3 years 11 months ago
JKH’s quote says it all: “PCE entrance is rationalized by a Congressional impasse on the debt ceiling. And if adopted, PCE exit is planned and contingent on the lifting of that impasse. This is not a rogue operation by either the Fed or the Treasury. They’re in it together, however it is interpreted. And both are capable of agreeing to resume normal Treasury funding operations when Congress gets out of the way. In total, including commitments and technical equivalence as described, that might be a package that in theory is at least more marketable to the public than facilitating Congress driving the country into another recession.” What you have just described is the essence of what occurs in authoritarian states. It’s folks getting together and saying: “Guys, Congress in not going its job, so we need to step in and make sure nobody gets hurt because of the ineffectiveness of these clowns” “When Congress gets its act together and do what they should be doing, then we can back off and let things get back to normal. Until then, we need to do whatever needs to be done to save the nation.” Do you really need for somebody to spell out for you what is wrong with this approach? I know you guys are passionate about TDC. And Gold Bugs are very passionate about going back to the gold specie standard, invoking all sorts of intelligent sounding legal and constitutional arguments. Both arguments are very much of the same ilk, just on different ends of an ideological plane. Only that most folks that advocate a gold specie standard at least seem to accept that that cannot be achieved without a profound political transformation that would enable a Gold Standard to be enacted through the very “inefficient” democratic process in the… Read more »
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Detroit Dan
3 years 11 months ago

But “exit” is not necessary, right? The Fed can keep the bonds / coins forever …

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JKH
3 years 11 months ago

IMO, exit ideally is contingent on but expected as a result of reversing the conditions that led to entrance – i.e. that Congress get out of the way in terms of impeding approved expenditures with debt ceiling games. See my response to James below.

That’s all. Otherwise, IMO, Treasury and the Fed should play within the rules for bond financing, allowing for conventional quantitative easing as deemed necessary by the Fed.

A permanent change in the rules for bond financing would require more comprehensive treatment. That is not something I have a particularly strong view on, but an institutional template for such change might be the CTRB structure I’ve suggested as an institutional option/contingency.

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