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the Gold Stock

The US government owns about 259 million ounces of gold bullion.  Long ago the Treasury issued certificates to the Fed for its gold, and received credit of nearly $11 billion in its account at the Fed.  That's based on a book value of $42.22 per ounce which was presumably the market price of gold at the time. Of course that credit has long since been used by the government.

With the market price of gold now at about $800 per ounce, why doesn't the Treasury buy back the gold certificates and reissue them to the Fed for credit at the higher value?  If Congress passed the authorizing legislation, that would increase Treasury spending power by about $196 billion with the mere stroke of a pen.  The additional funds could be used to redeem that much of the debt, with no new taxes.  Let's suppose that's what happens.

Here is the rest of the story:  Banking system reserves would increase by $196 billion.  That would more than quadruple the level of reserves (currently about $60 billion), and cause the Fed funds rate to plummet.  The resulting cheap bank credit would create serious inflationary pressures.  

The Fed would have to respond by selling an equivalent amount of Treasury securities out of its own portfolio.  That would drain the banking system of the excess reserves and restore control of the Fed funds rate, but it would also restore $196 billion of interest-bearing Treasury securities to "active duty." Recall that Treasury securities in the Fed's portfolio are effectively retired because the Fed rebates the interest payments on them to the Treasury.  The net result is the interest-bearing debt would remain unchanged.  What the Treasury redeemed would be matched by what the Fed sold back to the public.

The story would be quite different if the Treasury redeemed the gold certificates for $11 billion, and then sold the bullion on the market.  Of course with that much gold put up for sale, the market price would drop significantly.  Let's assume the average price of the sale worked out to $400 per ounce.  That would yield around $104 billion, which is a net gain of $93 billion in spending power. 

As it sold the gold, the Treasury could redeem that much debt without affecting banking system reserves.  In effect it would only be swapping a real asset, its gold supply, for the securities.  I don't advocate such a move because the debt isn't that important.  The purpose here is to show that the government can't simply "print money" to cover its spending without serious consequences.

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