Friday, November 19, 2010

Will the Fed Print Money to Bailout California?

Speculation is brewing that this just might be the direction the Federal Reserve may be headed in for various cities and states. It's clear that many state and local governments are in major financial trouble.

 “Given the recent bond offering by California appears to have been given the cold shoulder by the public, might they turn to the Fed?” asks Art Cashin, director of NYSE floor operations at UBS Financial Services, in his widely-read morning note to clients, reports CNBC.

Cashin has often referred to a 2002 speech by Bernanke on deflation, where the Chairman hints at buying all kinds of securities as a playbook for the current crisis, CNBC continues.

“The Fed has the authority to buy foreign government debt, as well as domestic government debt,” said then-Governor Bernanke, to the National Economists Club in Washington D.C.

Keep in mind that a bailout of California, or any city or state, is really a bailout of the bondholders. There is another option, bankruptcy, which would eliminate the need for any Fed printing which taxes us all through inflation.


  1. If they aren't doing it already, I expect the Fed to buy large portions of the bonds offered by the states in trouble.

  2. The entire paragraph is:

    "The Fed can inject money into the economy in still other ways. For example, the Fed has the authority to buy foreign government debt, as well as domestic government debt. Potentially, this class of assets offers huge scope for Fed operations, as the quantity of foreign assets eligible for purchase by the Fed is several times the stock of U.S. government debt."

    From the last sentence, it's not as clear that Bernanke was referring to non-Federal debt. However, the FRAct does allow the Fed to directly purchase debt obligations from state and municipal governments with maturities of 6 mos. or less that are issued in anticipation of the collection of taxes or the receipt of assured revenues. For longer maturities, they would need to be guaranteed by a Federal agency and purchased in the open market.

  3. It is impossible for the government to bail out any of these states since their problems are structural in nature. If the Fed were to buy California's debt, they would need to do so for many, many years unless CA makes huge structural changes to the way it operates, which includes massively cutting what it pays to is highly compensated workers. So long as these states continue to mint multi-millionaires they will always be broke and in need of a bail out.