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Ron Paul has gone public with proposals for the Fed to destroy $1.6 trillion in government bonds that it is currently holding. As The New Republic’s Dean Baker reports, such a plan might be a way around the impass that has mounted on the Hill.

Aside from the practicalities of politics, Paul’s plan is in concert with the debt repudiation arguments we here at MGC have been advocating. About $4.6 trillion of the $14.3 trillion in federal debt is inter-governmental debt. This is debts incurred by one branch of government to another. $1.6 of this $4.6 trillion (approximation 35%) are bonds the Fed purchased during the QE and QEII stimulus programs in recent years. These bonds represent government assets and the Fed annually refunds interest earned on assets over expenses. As Dean Baker aptly pointed out, “last year the Fed refunded almost $80 billion to the Treasury. In this sense, the bonds held by the Fed are literally money that the government owes to itself.”

The debt held by the Fed is not tied to any specific obligations. Unlike private obligations, the bonds held by the Fed are assets for which there are no corresponding obligations that it must use these assets to meet. Perhaps surprisingly, there is no direct loss of income to anyone associated with the Fed’s destruction of its bonds. If Congress were to heed Representative Paul’s advice, Congress would have to tell the Fed to destroy the bonds, eliminating a liability that the government had to itself – and reducing the the debt subject to the debt ceiling by $1.6 trillion.

Such a policy would provide Congress with a small amount of breathing room to continue to battle out budgetary reform, but do very little to address the fundamentals on the federal balance sheet. The secondary consequence of this policy would be to expose the direct and functional connection between fiscal and monetary policy – eliminating the illusion that these two “levers” of government action operate independently. James M. Buchanan has famously pointed to this connection when discussing the problems of deficit finance within democratic governance. Monetary authorities are not benevolent, independent agents immune from political pressures. Moreover, destroying the bonds illuminates the Fed’s central function – money creation.

The other – more substantive alternative making its way around the blogosphere: ASSET SALES. Politics on the Hill assumes that the only way to deal with the debt crisis is to cut spending, increase borrowing, or raise taxes. But as Peter Klein, David Friedman, Steve Horwitz, Bob Murphy, and several others are pointing out — the government owns a lot of valuable stuff and selling it is a good way to raise revenue.

Many point out that the selling off of governmental holdings quickly may be problematic – for legal reasons and for asset values. But the federal spending problem has culminated in this mess and there should be a push for Congress to sell off assets at bargain prices. When American families can’t pay their debts, they are often forced to do the same. Holding the federal government to the same standard is reasonable — and good policy. Federal land and buildings will be better utilized and managed in private hands, in turn generating wealth creation while lowering the national debt. This is true even if the initial buyers are not those with the highest willingness to pay. Divest the federal government of its holdings and set the Coase Theorem in motion!