To make those purchases, the Fed essentially printed money (the $1 trillion in reserves). If—and it’s a big if—those reserves were lent out quickly, the money supply would increase rapidly and generate inflation. But as we’ve noted incessantly, bank lending has continued to contract and the velocity of money (or the money multiplier) remains extremely low.

I think the reason why people are confused is because of the use of the word “print.”

There are three ways in which the Fed creates a higher money supply, none of which are physical “printing.”

From my understanding, the three ways that the Fed ups the money supply are buying government bonds from the public, lowering the reserve requirements, and lowering the discount rate.

I am always confused when people say the governement or the Fed needs to print more money when I believe that it is technically incorrect.

The simple explanation is that you can’t spend a Treasury security, so it isn’t cash. If you give cash to the Fed in exchange for a Treasury security, your ability to spend has been reduced. Here is an explanation using an overly simplistic example of how the process works:

Jose has $500 in cash. The Fed has $1,000 in Treasury bonds. Cash held by the public is counted in the supply of money calculation, but the Treasury bonds are not. To start with, the total supply of money equals $500.

The Fed decides that there is too much money in the economy. They think $400 is the appropriate level so they decide to get Jose to give them some of his cash. They offer to sell him $125 worth of treasury bonds for that $100 in cash. Jose accepts the deal and now has $400 in cash and $125 in Treasury bonds. The Fed has $100 in cash and $875 in Treasury bonds. We don’t, however, include the Fed’s $100 in cash in our money supply calculation (and in fact, they may simply burn the cash). The total supply of money has now been reduced to $400.

If the Fed now decides that the supply of money should be $600, they simply reverse the transaction. They print $200 in cash and buy $125 in Treasury bonds from Jose. Jose now has $600 in cash, and the Fed again has $1,000 in Treasury bonds.

Of course, the real world is a lot more complex than this example, but the fundamentals are the same. I think the reason this concept is hard for people is because Treasuries are priced in dollars. If they used bushels of corn instead of Treasuries, it might be less confusing.

Right now, you don’t need to be worried about the increase in the money supply affecting your savings. The supply of money has gone up significantly, but the use of money has also dropped significantly. This drop in the use of money offsets the increase in the money supply when establishing price levels. It will only be a problem if the Fed is unable to reign in the money supply once people start using money again.

One of the major differences is that currency is issued by the Federal Reserve, and debt is issued by the US Treasury. While they often work together, they are not the same organization. The Treasury has an obligation to repay its debt on a fixed schedule and at a fixed price. It does not have the ability to create the currency required to do so. It can get the currency through taxing its citizens, getting loans in the form of new debt, etc.

The Federal Reserve has no such obligation with its currency bills. If you are not happy with your $20 bill, you can exchange it for two $10 bills, but you can’t exchange it for a Euro, a Treasury bill, or anything else unless the Fed agrees to do so. It isn’t a true IOU because there is no obligation to exchange it.

When most people think of the government “printing money”, they conjure up images of the government running the printing presses non-stop to meet their obligations. Since the US Treasury doesn’t have this right, they can’t truly “print money”. They can, however, conspire with the Fed to do so by having the Fed buy their debt.

I listened to the whole interview, and what was said was very misleading. I think that is mostly because the interviewer wasn’t very interested in monetary policy, and Krugman didn’t elaborate. My understanding is that the Fed is selling off its Treasury securities (which contracts the money supply,) but, at the same time, it is also buying up non-government assets such as loans backed by Fannie Mae (which expands the money supply). The buying far exceeds the selling, so you are seeing the money supply grow. You could call this “printing money” since the Fed has increased the money supply by issuing more dollars, but Krugman is probably referring to debt monetization where the Fed conspires with the Treasury to increase the available money. I also don’t think he was advocating increasing taxes in the short term. I think he was merely arguing that people from around the world are willing to lend us money because the US economy appears to have the capacity to repay it by increasing taxes in the future.

When Krugman talks about stimulating with one hand, and raising taxes (which reduces aggregate demand — the OPPOSITE of what he claims is the right thing to do) it reveals that he really has no idea what he’s talking about.