Bob McCauley is a non-resident senior fellow at Boston University’s Global Development Policy Center and associate of the faculty of history at the University of Oxford.
US Treasury secretary Scott Bessent’s intention to “monetise the asset side of the US balance sheet” has led to discussion of what to do with unrealised gains on the US Treasury’s gold stock. The latest column by MainFT’s Gillian Tett is a great place to start.
Currently the Fed credits the US Treasury with $11bn against gold certificates, at a 1973 price of $42.22 per ounce. Congress could in extremis reset the accounting value at the current market price, around $2,900 per ounce, immediately raising the Fed credit to $758bn. Even if you heavily haircut the market price and set the price at $2,000 an ounce, it would still clock in at $523bn.
The prospect of the Treasury’s using gold profits to reduce its bond issuance would give comfort to some investors, while president Donald Trump might want to use the proceeds to start his new American sovereign wealth fund.
This post wants to make a different point though. The US Treasury’s tapping the Fed to monetise unrealised gold profits to reduce Treasury debt outstanding would not actually reduce the consolidated government debt, including both Treasury and Fed debt taken together.
Just look at South Africa, where last year the Reserve Bank transferred unrealised profit on its foreign exchange reserves to the National Treasury, shifting debt from the latter to the former.
However, the operation would create an opportunity to lengthen Treasury debt outstanding, in accord with a call to replace $1tn in “excess” Treasury bills with coupon securities. Whether the new administration wants to is another question.
Let’s examine why. First of all, it’s narrowly true that the Fed credit could lower Treasury debt, creating headroom under the recently reinstated Treasury debt limit. With the Congressional Budget Office projecting a 2025 deficit of $1.9tn, the gold profits would buy the Treasury a four-month reprieve from the limit.
But in three steps, here is how less Treasury debt does not actually mean less government debt.
Step 1️⃣: The Treasury’s gold certificate is revalued by upwards of a half a trillion dollars. The Fed writes up this asset and credits the Treasury’s General Account, a Fed liability.
➡️ No cash changes hands in the market.
Step 2️⃣: The Treasury draws down its Fed account to pay down upwards of a half trillion dollars in maturing short-term Treasury bills. The Treasury’s claim on the Fed becomes bank reserves. They ain’t free: the Fed is currently paying 4.4 per cent on bank reserves, more than the 4.3 per cent that the US Treasury is paying on 4-week bills.
➡️ Paying down Treasury bills with larger reserve balances at the Fed leaves consolidated government debt the same in amount (and much the same in maturity).
The story continues, because the Fed is currently aiming for “ample” but not “abundant” bank reserves by reducing its Treasury bond holdings — so-called quantitative tightening. A half trillion dollars of extra bank reserves backtracks on the ongoing QT.
Step 3️⃣. The Fed shrinks bank reserves on its balance sheet by selling Treasury bonds. As banks pay for them, the extra bank reserves disappear. The Fed extends its QT beyond a widely foreseen stopping point this summer.
➡️ The Treasury would have less debt outstanding, since it drew on the Fed and paid down maturing bills. But the Fed would unload an equal amount of Treasury bonds on to ultimate investors. In the end, investors outside the US government would hold the same amount of Treasury debt. QED.
Gold revaluation gives the Treasury new options though. As described above, paying down Treasury bills could lengthen the maturity of the Treasury’s debt. In addition, the Fed’s holdings of Treasury bonds would decline by upwards of half a trillion dollars, leaving more in the hands of investors.
Alternatively, buybacks of coupon securities could be ramped up (or issuance cut back) for a time to leave the maturity of the Treasury’s debt unchanged.
This begs the question of whether the Treasury wants to extend the maturity of its debt.
After all, Bessent has said he is focused on reducing the 10-year bond yield, but excoriated his predecessor for “distorting” the Treasury market by issuing too much in short term bills rather than long term debt. The Treasury’s quarterly funding strategy announced on 5 February then took no step towards rebalancing issuance away from bills and continued to anticipate no change to bond auction sizes for several quarters.
In either case, Congress’s legislating Fed monetisation of gold profits could reduce Treasury debt. But at the end of the day, investors would still have to digest the same amount of Treasury debt.