Last week, House and Senate negotiators reached an agreement on a five-year $305 billion highway bill, which would be partly financed by the Fed surplus funds. What does it imply for the Fed’s independence and the gold market?

The agreement on a five-year highway bill is one of those quiet stories that potentially matters far more than many more dramatic news. Why? Well, the bill would allow for a one-time draw of $19 billion from the Fed surplus funds (currently at around $30 billion) and for a cut in the dividends received by commercial banks that officially “own” the Fed. Although the Fed is not a private, profit-making institution, it is alarming that Congress is starting to consider the Fed’s balance sheet as a source of discretionary revenue.

Why does it matter? Replacing taxes with printing was always the main reason of all hyperinflation periods in history. Undoubtedly, there is no threat of hyperinflation in the U.S., as the highway bill is funded by already existing surplus funds and cuts in dividend payouts, however, it sets a bad precedent that the Fed should be treated as a piggy bank for future government spending.

It does not surprise, therefore, that Janet Yellen is not pleased with the highway bill. She said during a recent congressional testimony that “financing federal fiscal spending by tapping the resources of the Federal Reserve sets a bad precedent and impinges on the independence of the central bank. It weakens fiscal discipline”.

What are the possible consequences for the gold market? Well, the direct impact of the highway bill on the price of gold will be small, if any. However, the legislation sets a bad precedent, which could undermine the independence of the U.S. central bank. Lower Fed credibility and weaker fiscal discipline should be positive for the gold market in the long-run.

To sum up, House and Senate negotiators reached an agreement on a five-year $305 billion highway bill last week, which would be partly financed by the Fed surplus funds and a cut in the dividends received by commercial banks. The use of the Fed’s resources to finance fiscal spending sets a bad precedent, which infringes on the independence of the central bank and weakens fiscal discipline. The smaller the independence of the central bank, the higher the inflation rate and the lower the bank’s credibility. The lower the Fed’s credibility, the higher the price of gold.

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Arkadiusz Sieron
Sunshine Profits‘ Gold News Monitor and Market Overview Editor

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