Readers Question: Do the US have to depend on others to buy their bonds?
The US doesn’t have to rely on other countries to buy their bonds. If there is sufficient domestic demand for buying US bonds, there is no need to rely on foreign investors. However, at the moment, about 30% of US bonds are bought by foreign nationals. If foreigners stopped holding US bonds, you would see an increase in the bond yield on US bonds (If foreigners stopped buying US bonds, you would also see a depreciation in the value of the dollar.) Given the relatively low level of savings in the US, foreign demand for US bonds is definitely helpful for keeping bond yields on US debt low.
Readers Question: Why can’t the FED just buy all the bonds?
In theory, the Federal Reserve could create unlimited money and finance the government’s debt completely. However, in the long run, this unlimited creation of money would lead to inflation and a fall in the value of the dollar. It is not an effective long-term solution to simply monetize debt. Money creation doesn’t create output. See: Problem of Printing Money
The Federal Reserve is creating money and buying bonds because of the particular situation of the economy – i.e. in a liquidity trap, the normal rule that money creation causes inflation breaks down. Therefore, with falling money supply, it is possible for the Fed to create money and buy some debt without creating an inflationary problem. However, as the US economy recovers and the liquidity trap comes to an end, unlimited purchase of bonds through created money could start to cause inflation.
Readers Question, In this case, is it possible for the bond rates to be low forever? What would the consequences of this be?
The intervention of the UK and US Central Banks have helped keep bond yields low. It shows to markets, they don’t have to fear a liquidity problem. This intervention has definitely helped keep bond yields lower than comparable countries in the Eurozone where there is no Central Bank willing to buy bonds.
However, it is important to remember, the creation of money is OK, if you really have a liquidity trap and falling velocity of circulation. If the Central Bank radically increased the scope of quantitative easing and money creation, then markets may start to be concerned about inflation. If high inflation was forecast investors wouldn’t want to hold government bonds without a very high-interest rate to compensate.
You ask if the Central Bank couldn’t just finance all the debt and don’t involve the market at all. But, that would require a huge commitment just to create money in the economy. This is what Zimbabwe and Germany did leading to their hyperinflation. Yes, the Central Bank can create money to buy all bonds, but the inflationary potential means it is not worth doing.