The Federal Reserve’s Monetization of Debt Is a Bad Omen for the Future

One of the characteristic traits of an economy that is circling the drain is one in which the central bank directly monetizes the debt issued by the government. Once that starts to happen, there is no check on the government’s ability to spend money, and the currency unit quickly becomes more and more worthless. We’ve seen this happen in countries around the world throughout history, from Weimar Germany to Yugoslavia to Zimbabwe to Venezuela.

That’s why most countries now have written into their laws specific provisions forbidding central banks from directly monetizing government debt. Direct monetization is essentially allowing the government the ability to create money out of thin air merely by spending, and the effects are disastrous. Yet despite that ban on direct monetization, indirect monetization still occurs, and it’s happening faster than ever. And that’s a very worrying sign.

During the financial crisis, the Federal Reserve was renowned for its nearly instantaneous monetization of the federal government’s debt. The Treasury would issue debt, primary dealers would purchase it, and within hours the Fed would purchase that debt from the primary dealers. That was essentially an end run around the ban on direct monetization, and most people weren’t even aware of it.

Even fewer people are aware that the Fed has returned to doing this today. The Fed’s “not QE” quantitative easing, that has already added hundreds of billions of dollars to the Fed’s balance sheet over the past few months, is doing exactly the same thing as it did during its previous quantitative easing. Treasury securities that are purchased by primary dealers at auction are being purchased by the Fed immediately after the sales settle. Billions of dollars worth of Treasury securities are being monetized by the Fed almost instantly, and many investors are none the wiser.

This should be the warning that all investors need to get out of stocks and bonds as soon as possible and start investing in gold. QE4 is well underway, it’s just that the Fed isn’t calling it that. This is the Fed’s attempt at propping up markets that are unable to function on their own. Markets are essentially zombies today, on life support and ready to head off a cliff when investors least expect it. Those investors who invest in gold will be well protected when stock markets crash, while those who ignore the writing on the wall could see their retirement savings decimated just like millions of investors experienced back in 2008.