We are not yet in an economic emergency, as we were in the Great Depression. But should the government become unable to refinance its obligations, the Federal Reserve will refer to a Depression-era statue for the authority to finance the Treasury.

That authority was established in 1933 by the Thomas Amendment to the Agricultural Adjustment Act, which amended the Federal Reserve Act. The statute permits the Fed to purchase up to $3 billion of securities directly from the Treasury in the event of a national emergency. (That limit is the equivalent to more than $49 billion today.) 

The most likely procedure for emergency purchases of Treasury securities by the Fed is at auction (an open-market purchase) even if no one but the Fed shows up for the auction. The Fed probably would gain the most bang for the buck by purchasing Treasury securities of longer remaining maturity.  Long-dated Treasuries are less likely to be in demand if interest rates are rising. The Fed's accounting procedures also allow it to carry long-term Treasury securities on its books at par without adjustment to current market value. 

In both 1971 and 1979, foreign holders of claims on the U.S.A. refused to refinance the Treasury at the existing exchange rate or the existing interest rate. In 1971, gold was suspended, In 1979, Fed Chairman Paul Volcker, who will return to government to head President-elect Obama’s new economic advisory committee,  initiated a new monetary policy that led to a 22 percent prime bank lending rate. 

Something equally as calamitous as a Treasury auction with no foreigners present may or may not happen this time. We shall know when the emergency is approaching if interest rates on Treasury securities begin to rise, the foreign exchange value of the dollar falls, or gold and silver prices rise. The occurrence of any one of these three factors is not definitive proof that the crisis is arriving. 

Among those factors, currently only gold and silver prices are rising. The concurrence of two factors would strengthen the case for the arrival of the crisis. The simultaneous occurrence of all three factors should be a sure signal that the critical moment has arrived. That is, in fact, what happened in 1971 and 1979.

Meanwhile, despite the absence of any authorizing statute, for more than 45 years the Fed has lent money to the Department of the Treasury in exchange for foreign exchange reserves and foreign government obligations that the Treasury holds. This so-called "warehouse" is operated occasionally in conjunction with the Treasury's Exchange Stabilization Fund. While Larry Summers—whom President-elect Obama has named to head the National Economic Council—was at the Treasury in the 1990s, the department took the position that the warehouse facility with the Fed is evergreen.

The Treasury can pledge or deposit securities, receive dollars, go into the market and purchase more securities, bring them back to the Fed and receive more dollars an infinite number of times. That process would cause a mushrooming of the Fed's balance sheet, which would be inflationary. 

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