How Fed stimulus earns a profit for taxpayers

Nestled in Ben Bernanke's Jackson Hole speech was a short quote that might get Republicans' attention: More Fed stimulus could turn a profit for taxpayers.

The "odds are strong that the Fed's asset purchases will make money for the taxpayers, reducing the federal deficit and debt," the Federal Reserve chairman said Friday.

That point comes as conservative critics have warned that the Fed is buying up too many bonds and amassing a portfolio that will be difficult to unwind in the future.

The Fed has stockpiled about $1.6 trillion in Treasuries at low yields, and when those yields start to rise, it could stand to lose a substantial amount of money, those critics say.

Bernanke dismissed those concerns. Not only does he have the means to unwind the balance sheet in the future, he agued, but his policies have so far been a moneymaker.

Turning a profit for the Treasury Department is certainly not the Fed's main goal – getting the economy back on track is – but it can't hurt.

So how exactly is the Fed making taxpayers money?

First, here's an important distinction: When the Fed buys bonds, it's not spending the government's cash. Rather it creates the money itself, basically by electronically crediting the money to banks.

The Fed then earns interest on the Treasuries it holds, and while interest rates are very low, the sheer mass of bonds the Fed holds nevertheless makes for quite a windfall.

The Fed earned a $77.4 billion profit last year, and of that, most was from interest payments. The year before, it earned $81.7 billion, and in 2009, it earned $53.4 billion.

That's up significantly from the pre-crisis years, when the Fed had a much smaller portfolio, with far fewer bonds. In 2007, it earned $38 billion.

After paying some of its own administrative expenses, the Fed turns most of those profits over to Treasury, which can use them to pay government bills.

So indeed, quantitative easing reduces the deficit and debt – but remember, the impact is just a drop in the bucket, when it comes to the $15 trillion national debt.

Note that the Fed might be holding down the deficit through two other channels: Simply by keeping interest rates low, it makes it cheaper for the U.S. government to borrow. Second, if the Fed's policies are working to boost the economy, they are also probably boosting tax revenue for the government.

"Of course, to the extent that monetary policy helps strengthen the economy and raise incomes, the benefits for the U.S. fiscal position would be substantial," Bernanke said.

In any case, he says, it's of little consequence whether the Fed gains or loses money in any given year.

"Monetary policy can achieve the most for the country by focusing generally on improving economic performance," Bernanke said.

Source & Image : CNN Money