Wednesday, July 27, 2011

Who holds the American public debt?

Just a clarification following up my comments on Nick Rowe's post.  Several people are under the impression that the Fed can still monetize debt if the debt-ceiling is not raised beyond the US$ 14.3 trillion limit.  Not the case. Otherwise there would be no default by definition.  There might have been some problems associated with monetization, but not default (see more about monetization here).

Of the US$ 14 trillion of debt outstanding by December 2010, around US$ 5.6 were held by the Fed and other intra-government agencies (Fed holds around US$ 1.6; see Dean Baker's proposal and discussion here).  So if the Fed buys debt, to monetize it, it just reduces the privately held part of the debt and increases the publicly held, but it cannot increase the total amount.  The graph below shows the public, private, and the foreign (within the private) held shares of US public debt.

As you can see, since the Great Recession, the private share increased from around 50% to close to 60%, and of that the increase has been mostly associated to foreign ownership.  So apparently nobody has been worried (correctly so) about the possibility of an American default.  In fact, since the crisis Treasuries have been increasingly a demanded asset by the private sector, particularly foreign investors, as a safe heaven against the risk of default (data here).  The problem is that the debt-ceiling limit creates a situation which would otherwise be impossible, namely: the US can default on bonds issued in its own currency.

Well understood what the debt-ceiling limit implies is a fiscal restriction, and it would force drastic cuts in spending.  Consider it a very large government shutdown.  So in reply to Nick, if you are Keynesian, and believe your model, this is really bad news.

1 comment:

  1. A great site and good analysis.

    Any default will be a political choice - and in no sense a necessary event.


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