Monetizing the Debt

In many coun­tries the gov­ern­ment has assigned exclu­sive pow­er to issue or print its nation­al cur­ren­cy to a cen­tral bank. For exam­ple, in the USA, The Fed­er­al Reserve Bank does this.

The gov­ern­ment trea­sury must pay off gov­ern­ment debt either with mon­ey it already holds or by financ­ing it by issu­ing new bonds which are sold to either the pub­lic direct­ly or the cen­tral bank, in order to raise the funds required to sat­is­fy the debt. In this lat­ter case where bonds are placed with the cen­tral bank, the cen­tral bank will cre­ate the need­ed mon­ey by con­duct­ing an open mar­ket pur­chase, i.e. by increas­ing the mon­e­tary base through the mon­ey cre­ation process. This process of financ­ing gov­ern­ment spend­ing is called mon­e­tiz­ing the debt.

Mon­e­tiz­ing debt is thus a two-step process where the gov­ern­ment issues debt to finance its spend­ing and the cen­tral bank pur­chas­es the debt, leav­ing the sys­tem with an increased sup­ply of base mon­ey.

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