Question

What is monetization of debt? Why is the government’ ability to finance deficit by monetization limited?

Answer 1

ANSWER:

Monetization (also written monetisation) is the process of converting or establishing something into legal tender. While it usually refers to the coining of currency or the printing of banknotes by central banks, it may also take the form of a promissory currency.

The term "monetization" may also be used informally to refer to exchanging possessions for cash or cash equivalents, including selling a security interest, charging fees for something that used to be free, or attempting to make money on goods or services that were previously unprofitable or had been considered to have the potential to earn profits. And data monetization refers to a spectrum of ways information assets can be converted into economic value.

Debt monetization is the financing of government operations by the central bank.^[1] If a nation's expenditure exceeds its revenues, it incurs a government deficit which can be financed by the government treasury by

• money it already holds (e.g. income or liquidations from a sovereign wealth fund)
• issuing new bonds

or by the central bank by

• money it creates de novo

When government deficits are financed through debt monetization the outcome is an increase in the monetary base, shifting the aggregate-demand curve to the right leading to a rise in the price level (unless the money supply is infinitely elastic).^[2][3]When governments intentionally do this, they devalue existing stockpiles of fixed income cash flows of anyone who is holding assets based in that currency. This does not reduce the value of floating or hard assets, and has an uncertain (and potentially beneficial) impact on some equities. It benefits debtors at the expense of creditors and will result in an increase in the nominal price of real estate. This wealth transfer is clearly not a Pareto improvement but can act as a stimulus to economic growth and employment in an economy overburdened by private debt.^{[citation needed]} It is in essence a "tax" and a simultaneous redistribution to debtors as the overall value of creditors' fixed income assets drop (and as the debt burden to debtors correspondingly decreases).