Fed Expands Record Holdings of US Debt

The Federal Reserve expanded its record holdings of US Treasuries in the fourth quarter of 2020 as it continued monetizing the massive federal debt.

The Federal Reserve added another $253 billion to its Treasury holdings in Q4 according to the Fed’s Treasury International Capital data released on Feb. 16. That brought the central bank’s US bond holdings to $4.7 trillion. The Federal Reserve now holds a record 17.5% of all US debt.

The Fed’s share of US debt load exploded from 9.3% in Q1 2020 to its current level

Fed bond-buying was up 5.4% in Q4 compared to Q3.

As of Feb. 22, the US national debt had surged to $27.93 trillion and there is no end in sight to government spending. Uncle Sam ran a $162.83 billion budget deficit in January alone.  Total spending through the first four months of fiscal 2021 stood at $1.92 trillion.

Over the last 12 months, the US government has borrowed $4.55 trillion.  In order for Uncle Sam to borrow, somebody has to lend. Foreign and domestic investors, commercial banks and US government entities all buy US debt, but increasingly, the Federal Reserve is backstopping the market and making this borrowing binge possible.

Historically, the Treasury has relied on foreign investors to buy its bonds. But foreign holdings of Treasuries slipped by $35 billion in the fourth quarter.  Foreign central banks, foreign government entities, and foreign private-sector private investors now hold $7.04 trillion in US debt.  The foreign share of US debt fell to 25.4%, the lowest level since 2007.

Significantly, the Chinese continued to divest themselves of US Treasuries in Q4. Over the last 12 months, China has decreased its US debt holdings by $8 billion.

Without the Federal Reserve putting its big, fat thumb on the bond market, Uncle Sam would find it very difficult to continue his spending spree. Interest rates would have to soar in order to entice average investors to buy US Treasuries. The market would collapse.

In March and April alone, the Fed bought $1.56 trillion in Treasuries. During that same time period, the US Treasury issued $1.56 trillion in bonds. In other words, the Fed effectively monetized 100% of the new federal debt accumulated in March and April.

Without the Fed soaking up trillions in Treasuries, the glut of bonds on the market would crash the price and push interest rates up – something the Federal Reserve cannot allow to happen. So, the Fed monetizes the debt via quantitative easing. The central bank buys bonds on the open market with money created out of thin air. This creates artificial demand and pushes interest rates artificially low.

Federal Reserve Chair Jerome Powell insists the Fed isn’t monetizing the debt. During testimony before the Senate Committee on Banking, Housing, and Urban Affairs back in June, Powell flatly denied the central bank is buying assets in order to facilitate the Treasury’s sale of debt. “That certainly is not our intention,” Powell said.

It wasn’t in any way about meeting Treasury supply and it continues not to be. We really don’t think about it.”

Powell then claimed that the demand for Treasuries was “robust.”

But when you look at the actual numbers, the demand is only robust because the Fed is in the marketplace. It’s unfathomable how Powell could claim with a straight face that the Fed isn’t monetizing the debt even as it effectively monetized 100% of the debt in March and April.

The Fed has slowed its Treasury purchases somewhat since April, but as the Q4 numbers show, it remains a huge player in the market. And as the US government continues to borrow to fund its massive deficits, there is no doubt it will continue to be one.

On the flip side of the equation is inflation. The Fed effectively prints money to buy Treasuries and injects the newly minted dollars into the economy. As Peter Schiff has noted, we’re already seeing signs of inflation heating up. At some point, the central bankers will be faced with a choice – continue monetizing the debt and inflating the money supply or deal with surging inflation by letting rates rise. It can’t do both. And neither of these choices will play out well for the American people.