It's the Fed, not the TARP

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Written by John Schmitt   
Sunday, 12 December 2010 15:23

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Mary Bottari has a good post on the Federal Reserve Bank’s role in the ongoing financial bailout. The media and voters have focused on the Troubled Asset Relief Program (TARP) legislation passed in a hurry late in 2008. But, as Bottari emphasizes, the TARP is only a minor part of the federal bailout of the banks.
As she writes: “TARP funds were a mere seven percent of total funds disbursed by federal government to aid the financial sector since 2007 … the more we focus on the much-despised TARP, the less we see the invisible hand of the Fed doing the heavy lifting.”

The most important elements of the government intervention on behalf of the financial sector have been Fed actions: low interest rates and Fed asset purchases. Rock-bottom interest rates have allowed banks to borrow money from the Fed at close to no cost and then to lend those funds to the Treasury at a several-percent, zero-risk, profit. (Maybe we should allow unemployed workers to form “banks” like these. It would take a lot of pressure off state unemployment insurance systems.)

The Fed has also purchased a lot of troubled assets from financial institutions, helping to clear those bad loans from the private sector’s balance sheets in quantities that dwarf the Bush administration’s TARP.

Where I differ from Bottari is on the implications for taxpayers. She argues that the Fed’s actions put taxpayers at risk. But, even if every asset the Fed bought suddenly lost all its value, US taxpayers need not be on the hook for any of the losses. The Fed has limitless ability to print money. The only risk here is that the Fed’s actions increase the money supply and that this results in inflation. But, as with other discussions of Fed policy (quantitative easing, for example), the challenge we face now is deflation, not inflation, so the risks are slight.

This article originally appeared on John Schmitt's blog, No Apparent Motive.