How much debt are we buying from ourselves?

Krugman says not to worry:

People think of debt’s role in the economy as if it were the same as what debt means for an individual: there’s a lot of money you have to pay to someone else. But that’s all wrong; the debt we create is basically money we owe to ourselves, and the burden it imposes does not involve a real transfer of resources.

That’s not to say that high debt can’t cause problems — it certainly can. But these are problems of distribution and incentives, not the burden of debt as is commonly understood.

Kling says to worry:

In 2011, the Federal Reserve bought 77 percent of new debt issued by our government. We are already resorting to inflationary finance.

It gets worse.

Many of the securities that the Fed has acquired are long-term bonds and mortgages. As inflation and interest rates increase, the value of these securities plummets. (A bond that pays 2.5 percent interest loses roughly half its value when market rates rise to 5 percent.) In this scenario, the Fed will be incurring losses, which will require a subsidy from the government budget.

Who is right? We’ll find out soon enough.

2 responses to “How much debt are we buying from ourselves?

  1. If bonds are held to maturity there is no loss to an entity like the Fed. The Fed is not a typical investor. The loss comes in if you have to value the bond for sale before maturity date. why would the fed put the bonds up for sale?

    • There is a very good reason why they might want to put the bonds up for sale, i.e. to quickly soak up all the extra liquidity (currently sitting on their balance sheet as excess reserves) in the event asset bubbles/price inflation start to accelerate beyond tolerable levels. .

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