Net Foreign Security Purchases (TIC)

Summarizes the flow of stocks, bonds, and money market funds to and from the United States (i.e. capital flow into US denomiated assets). The headline figure is the difference in value between American purchases of foreign securities and foreign purchases of American securities, expressed in millions of dollars. The Treasury International Capital or TIC statement is a major component of the American capital account and gives valuable insight into foreign demand for American investments and dollar.

A positive figure indicates that more capital is entering the US than leaving as sales of American securities to foreigners exceed American purchases of foreign securities. Positive figures suggest that American security markets are competitive with those of other countries.

Foreign security purchases are especially important in the case of a trade deficit, as a positive figure can offset the depreciating effect (on the USD) of a trade shortfall. A negative or declining TICS figure reflects a declining capital flow picture. Outflows are indicative of weaker demand for US assets which puts downward pressure on the value of the dollar.

TIC data breaks down investors into governments and private investors. Usually, a strong government holding of dollar denominated assets signals growing dollar optimism as it shows that governments are confident in the stability of the U.S. dollar. Most importantly seems to be the purchases of Asian central banks such as that of Japan and China. Waning demand by these two behemoth US Treasury holders could be bearish for the US dollar. As for absolute amount of foreign purchases, the market generally likes to see purchases be much stronger than the funding needs of that same month's trade deficit. If it is not, it signals that there is not enough dollars coming in to match dollar going out of the country. As a side note, purchases by Caribbean central banks are generally seen to be less consistent since most hedge funds are incorporated in the Caribbean. Hedge funds generally have a much shorter attention span than other investors.

Release Schedule: 9:00 AM (EST); monthly, in the second month following the reporting month

Revisions Schedule: Data are subject to revisions for 24 months following release

Source of Report: U.S. Treasury

Web Address: http://www.treasury.gov

Address of Release: http://www.treasury.gov/tic/ticsec2.html

What is Debt Monetization? How does it work?

1. Suppose the government runs a deficit... E.g. let government spending on goods and services be $10,000. For simplicity, all transactions are in cash. Let net taxes from all sources be $9,000 so there is a $1,000 deficit.

2. The government has $9,000 in cash from taxes, but needs to spend $10,000. Somehow (print money, borrow money, raise taxes, or lower spending) it must get $1,000 more.

3. Suppose it decides to borrow – issue new debt. Then the Treasury sells a government bond to someone in the private sector for $1,000. The person gives $1,000 in cash to the government and in return gets an IOU (perhaps for, say, $1,100 in one year).

4. The government now has $9,000 in cash from taxes and $1,000 it has borrowed from the public so it can now purchase $10,000 in goods and services.

5. Now let’s do the monetization step. This can happen automatically, as explained below, but for now let’s have the Fed conduct a $1,000 open market operation to increase the money supply. To do this, it cranks up the press, loads in some paper and green ink, and prints a brand new $1,000 bill. It takes the $1,000 bill and purchases a bond from the public, for simplicity make it the same bond the Treasury just issued. Then the money supply goes up by $1,000 (and may go up more through multiple deposit expansion) and government debt in the hands of the public goes down by $1,000 since the Fed now holds the bond. The increase in the money supply is inflationary.

6. What has happened? When all paper has ceased changing hands, the $10,000 in goods and services is paid for by the collection $9,000 in taxes and by printing $1,000 in new currency. The government debt simply moves from the Treasury to the Fed (in the U.S., the Fed pays for its operations from its earnings on these bonds and remits the remainder to the Treasury; I believe the remittance is weekly, but I’m not positive on that). (In other words, the Treasury just ends up owing money to the Fed.)

How can constant interest rate rules potentially cause debt monetization to occur automatically?

Suppose the Fed follows a constant interest rate rule. Further suppose an increase in government spending increases the interest rate (see here for a paper on this by Benjamin Friedman posted at the NBER site today). That is, when the government issues new debt, the supply of bonds increases lowering the price and raising the interest rate. Under these assumptions what will happen when there is deficit spending?

1. Deficit spending financed by borrowing from the private sector causes the interest rate to go up. Thus, initially two things happen, bonds held by the public (debt) increase and interest rate increases as well.

2. But the Fed is following a constant interest rate rule. Seeing the interest rate rising, what should it do? It should increase the money supply and to do so it prints money, as above, and uses it to buy bonds from the public. In order to return the interest rate to where it started, all of the debt issued in step one must be purchased with newly printed money (can you smell the fresh ink?).

3. In the end, what happens? It’s just as above, the entire deficit is financed by printing money and the debt issued by the Treasury ends up in the hands of the Fed

Monetization vs Sterilization

Sterilization is usually discussed in the context of currency intervention, but it’s functionally the same when a central bank wants to drain cash from the system.

It’s the process of selling longer-dated assets in exchange for zero-maturity money. This locks money up for a time, effectively removing it from current circulation. Usually, this would be done by selling off some of the Treasuries on the Fed’s own books for cash. The Fed will take the cash it receives and sit on it.

If the Fed doesn’t own enough treasuries, it might not be able to do this in large enough scale on its own. Now, the Treasury could just issue more treasuries and sell them to the Fed.

But the new ability to pay arbitrary interest rates to banks on their deposits is quite similar and can be used for sterilization. The banks deposit their cash with the Fed, which locks it up, taking it out of circulation.

The big difference is maturity: these deposits are generally just overnight, while a Treasury has a much longer term, up to 30 years, but with whatever maturity the government wants. Perhaps the Fed could start offering CD’s, essentially, to remove even this distinction...

The Federal Funds Rate

The Fed maintains the federal funds rate - the interest rate at which US banks make overnight loans to each other - at (or close to) the Fed's chose target by injecting (the rate falls) and extracting (the rate rises) liquidity from the banking system. The Fed does this through repurchase agreements (repos) or by manipulating the stock of Treasuries on its balance sheet.

However, when the Fed wants to keep the federal funds rate unchanged but add liquidity by other means (perhaps by auctioning off funds), the Fed sterilizes the effects of the new liquidity on the monetary base by performing an offsetting open market operation - an overnight repo or selling Treasuries outright.

Leaving money in the banking system as excess reserves increases the supply of federal funds & reduces the federal funds rates (below the Fed's target). The increased money supply is inflationary-too much money chasing the same number of goods & services.

Understanding The Yield Curve

What is it?

The graph you get when you plot the rates for 1-month T-Bills to 30-year T-Bonds.

When people think about interest rate changes, they generally are discussing a parallel change in interest rates, where rates change by the same amount across the yield curve.

When yield curve changes are discussed from a bearish or bullish standpoint...

Rising rates are considered bearish.

Falling rates are considered bullish.

Non-parallel shifts are generally discussed as yield curve twists.

The shape of the yield curve is simply the difference in yield between two maturities. The "rule of thumb" is to look at the 2-year to 10-year Treasury curve slope. If the 10-year rate less the 2-year rate is positive, the yield curve is normal, or positively sloped. If it were negative, it is called an inverted yield curve. If the difference is relatively small, it's considered flat.

Non-parallel shifts

Steepeners... when the difference between the long end & the short end increases

Bull steepener... short interest rates are falling faster than long rates

Bear steepener... long rates are rising faster than short rates.

Flatteners... when the difference between the long & short end decreases

Bull flattener... long interest rates are falling faster than short rates

Bear flattener... short rates rise faster than long rates