2. Monetary and fiscal policies are now hopelessly intertwined. In other words, when the Fed finally decides to raise rates and shrink its balance sheet, it will seriously exacerbate the government’s already sizable deficit. When that happens, given the United States’ serial failures to address its fiscal imbalances, there’s a good chance the government will look to higher inflation, a weaker dollar, or both as tools to mitigate the burden of an ever-growing national debt.
Market Realist – The graph above shows the U.S. government budget as a percentage of GDP. The budget deficit has been shrinking since 2010.
Eventually, the Fed will shrink its balance sheet by selling Treasuries (TLT)(IEF) issued by the U.S. government that the Fed bought through the bond (BND) buying program we mentioned earlier. This would put upward pressure on Treasury yields and on the already high budget deficit.
Please read the next part of this series to understand the strategies you could use to shield yourself from inflation.