This is where the Treasury
comes in. The Treasury provides most of the collaterals acceptable to the
Central Bank through which the Central Bank creates most of the reserves.
Further, the Treasury maintains the account from which it makes its payments at
the Central Bank in all countries, although it may maintain accounts at some
designated commercial banks also (see Yaker and Pattanayak 2010). We should
mention that, leaving aside the questions of why and since when, the Central
Bank currently cannot directly lend to or directly purchase securities from the
Treasury in any country. The "central bank independence" reigns
supreme by law, although not necessarily in practice.
Other than banks and the
Treasury, there usually are a few other entities that are allowed to maintain deposit
accounts at the Central Bank in every country, not to mention foreign central
banks. All deposits other than bank deposits at the Central Bank, including
reverse repurchase liabilities, drain reserves if they go up. In other words, all
deposits other than bank deposits at the Central Bank should be viewed as a
fourth type of money, since changes in their balances impact reserves, that is,
base money, so that they should be managed in order not to create liquidity
problems in the domestic banking system (see, for example, Pozsar 2019).
We conclude this section
with the following observations.
1) When the Treasury sells
its bonds to the non-bank rest, there is no new money creation. Only existing
money changes hands, and if that money gets deposited in the TSA, equal amounts
of reserves and deposits get extinguished. Likewise when tax payments get
deposited in the TSA. But after the
Treasury spends the deposited amount, both base money and broad money come back to where they were
before, keeping everything else constant.
2) When the Treasury sells
its bonds to banks, three things may happen.
a) If there are banks at
which the Treasury can maintain deposit accounts with or without
restrictions, or there are no such banks and only those banks at which the
Treasury cannot maintain deposits accounts purchase the Treasury bonds, then
these banks buy the Treasury bonds by borrowing from the Central Bank against
which the Central Bank increases the balance of the TSA. After the Treasury
spends the balance, an equal amount of base and broad money get created.
b) If there are banks at
which the Treasury can maintain deposit accounts without restrictions and only
those banks at which the Treasury can maintain deposit accounts without
restrictions purchase the Treasury bonds, then new broad money gets created as
usual. But since the Treasury has to spend only from the TSA, the result is the
same as above.
c) If there are banks at
which the Treasury can maintain deposit accounts with restrictions and only these
banks purchase the Treasury bonds, then a combination of the above two happens.
These observations mean
that whether the Treasury sells some bonds to banks or the same amount directly
to the Central Bank (or the Central Bank loans the same amount to the
Treasury), the changes in the base and broad money are the same after the
Treasury spends the amount, keeping everything else constant. The latter is, of
course, cheaper for the Treasury because the Central Bank has to pay a large
percentage of its profits to the Treasury in every country, whereas the banks,
generally, do not.
