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TheStreet Open House

The 'Bond Vigilante vs. Fed' Mantra Makes No Sense

NEW YORK ( TheStreet) -- There is a new macroeconomic mantra that has spread itself across the markets and on CNBC in the last couple of months in particular. It goes something like this:

1. The U.S. Treasury issues $1.3 trillion per year in deficit financing;

2. The Federal Reserve buys over 80% of the deficit -- $85 billion per month;

3. The "Bond Vigilantes" are dead because the Fed buys essentially all the bonds;

4. There is no inflation, and interest rates will stay low forever simply because the Fed has unlimited buying power;

5. Downgrading U.S. government debt by rating agencies don't matter, because after they did it last time (August 2011) interest rates only went down.

Turn on CNBC and you will hear some minor version of this "new reality" more times per day than you can count. Listening to this you could be excused for thinking there is no reason to worry, ever. Deficits don't matter, and interest rates can never rise.

Here is what you have to ask yourself: If it's this easy, why doesn't everyone do it all the time?

What we have in the U.S. right now is massive, painless government spending: The government essentially spends whatever it wants, because its compliant Federal Reserve simply prints up the difference between tax revenue and spending.

As you can see from this data series , cumulative federal spending was $28 trillion over the last 10 years. For the next 10 years, the most conservative outlook is $46 trillion, a 65% increase over the previous 10 years.

Back to the central question: If it's this easy, why doesn't everyone do it?

The cost of this policy appears to be nothing, zero:

  • No inflation
  • No high interest rates
  • No economic collapse
  • No need to cut any government program, ever
  • No currency crisis

It's all sweetness, light and jingles. Candy all the way, no hard work, no saving, no deferral of spending, no pain, no problem.

Let's cut a few decimal points off this Federal government equation to show what it would mean for an individual. You make $250,000 per year, you spend $380,000, you borrow $30,000 and you go to your basement printing press for $100,000 in $20 bills to pay for your drug habit.

Anything wrong with this picture?

We are being told there is no penalty for this policy. We are immune to any need to cut our excessive spending habit because can print almost all of the deficit. There is, therefore, no price to pay.

Why even bother discussing austerity programs, whether in Greece, Spain, Italy, Portugal or right here in the U.S.? If the U.S. can be just fine simply printing almost its entire deficit, why can't Europe do the same? If there truly is no cost to doing this, why hold back?

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