By Bill Dupor, Assistant Vice President and Economist
In October 2017, the Federal Reserve began gradually reducing its reinvestment of principal payments of the security holdings it accumulated during rounds of quantitative easing. These interventions were a part of the Federal Reserve’s response to the last recession. This reduced reinvestment has become known as the Federal Reserve’s “taper.”
One component of the Fed’s portfolio is U.S. Treasury securities, which totaled about $2.5 trillion when the reduction of reinvestment began. The figure below plots the time series “U.S. Treasury securities held by the Federal Reserve: All Maturities” over time. The figure shows that, as expected, once the October 2017 plan took effect, U.S. Treasury debt held by the Federal Reserve has fallen by over $300 billion. Barring a change in Federal Reserve policy, this amount will continue to fall.
A curious reader might ask the question: Has the Federal Reserve’s taper affected the federal debt situation, either materially or cosmetically?
In purely accounting terms, the answer is no. Let us begin with the two most common ways analysts measure the U.S. federal debt. The time series of each is plotted in the figure below.
First, the “Gross Federal Debt” (red line) is all federal debt independent of who holds it. This includes, but is not limited to, companies and individuals in the U.S.; individuals, companies and governments abroad; federal agencies (e.g., the Social Security Administration); and the Federal Reserve.
Second, the “Federal Debt Held by the Public” (blue line) is equal to the gross federal debt net of that held by the federal government.For the definition of “Federal Debt Held by the Public,” see the Treasury Direct article “Frequently Asked Questions about the Public Debt.” Importantly, to answer our question, the Federal Reserve is included as part of the Public.
Neither series exhibits a dip after October 2017, suggesting that the Fed’s taper is not reflected in these two measures of the federal debt. This should make sense given each of the two definitions described above.
First, gross public debt does not change with the taper because the Federal Reserve’s reduced reinvestment on net takes U.S. Treasuries out of the Fed’s hand (because the Fed is not reinvesting principal payments) and leaves it in the hands of other holders of U.S. Treasuries.
Second, the taper does not directly affect the federal debt held by the public either. This is because the Federal Reserve is treated as part of the public for the purpose of constructing this variable. The Fed’s taper reduces one “public” actor’s holding of U.S. Treasuries but increases other public holdings of Treasuries.
So, the simple answer to the question posed in the title of this blog post is: No.
There are a few subtleties one might raise though. For example, by law any interest income earned on the Federal Reserve’s portfolio not spent by the Fed as part of its operations is remitted to the U.S. Treasury. To the extent that the taper reduces the Fed’s own portfolio income, this might reduce remittances. In turn, this could increase the amount of future debt issuances by the federal government required to cover its expenses.
Another subtlety is that, as the Fed draws down its holdings of U.S. Treasuries on the asset side of its balance sheet, it is also reducing its own liabilities outstanding. In terms of a “consolidated Treasury-Fed balance sheet,” the taper is also not affecting the total government debt of the U.S.For more on the notion of a consolidated Treasury-Fed balance sheet, see the chapter “Debt Management and Banking Reform” in Milton Friedman’s book A Program for Monetary Stability.
1 For the definition of “Federal Debt Held by the Public,” see the Treasury Direct article “Frequently Asked Questions about the Public Debt.”
2 For more on the notion of a consolidated Treasury-Fed balance sheet, see the chapter “Debt Management and Banking Reform” in Milton Friedman’s book A Program for Monetary Stability.