The Fed Is Backstopping the Enormous Government Debt
The 2020 budget deficit surged passed $3 trillion in August even as the US government continues to borrow and spend at a torrid pace. Since March, the federal government has added $3.3 trillion to the national debt. That is on top of the $1.4 trillion in debt Uncle Sam piled on in the 12 months through February 2020.
So, who is buying all of this government debt?
There are a lot of buyers out there, but when you boil it all down, the US government wouldn’t be able to maintain this level of borrowing and spending without the backstop of the Federal Reserve.
The Fed was the biggest buyer of US Treasuries in July, adding $89 billion worth of bonds to its balance sheet, according to the most recent Treasury International Capital data. That brought its total holdings of US debt to $4.9 trillion as of the end of July. The Federal Reserve now holds a record 16.2% of the total government debt. It has monetized $2.18 trillion in US debt over the 12-month period through July.
Keep in mind, the Fed has bought these Treasuries with money created out of thin air.
Buy buying trillions in US Treasuries, the central bank effectively puts its thumb on the market for bonds, creating artificial demand, holding bond prices up and pressing yields down. This allows the US government to borrow far more than it could if it had to depend on the open market to service its debt.
With the Fed buoying the market, US commercial banks were the second-biggest buyer of Treasuries in July behind the Fed, adding $66 billion in July. Of course, commercial banks can always offload Treasuries to the Fed if need be.
Foreign investors are also buying Treasuries. Foreign central banks, companies, funds, and individuals bought $48 billion in Treasuries in July. Japan was by far the biggest buyer, adding $32 billion. Notably, China shed US Treasuries in July, continuing a trend. Since July 2019, the Chinese have sold $37 billion in US bonds. The Chinese recently hinted that they may whittle down holdings even further.
Japan is the biggest foreign holder of US debt with China trailing behind. Combined, China and Japan hold 8.9% of US government debt.
The Social Security Trust Fund, pension funds for federal civilian employees, pension funds for the US military, and other government funds shed $15 billion in July and $21 billion over the 12-month period.
US investors piled into Treasuries as a safe-haven at the height of the coronavirus lockdowns, but have started to trim their holdings. US private investors and institutions shed $93 billion worth of Treasuries in July.
The Federal Reserve isn’t the biggest holder of US debt, but it is the motor that makes the engine run. Without the central bank’s commitment to monetize debt, the US government would find it impossible to borrow and spend at its current rate. It would be constrained by the market demand for its bonds.