Posted January 16, 2013
What was acceptable during the Revolutionary War is probably not a good idea in an advanced economy
By Steve Bell, Loren Adler, Shai Akabas and Brian Collins
In a vivid illustration of just how far our political discourse has fallen, the upcoming confrontation with the debt ceiling has brought with it serious discussion of defaulting on our obligations, minting trillion dollar coins, and printing IOUs.
Back during the 2011 debt limit event, there was much talk of the president invoking the 14th Amendment (“… the validity of the public debt of the United States, authorized by law … shall not be questioned”) to unilaterally resolve the debate. Considering the enormous potential costs of issuing debt with unknown legal validity – including higher interest rates and jeopardizing the reserve currency-status of the dollar – it’s good that the White House Press Secretary Jay Carney quashed the idea during a December press conference, stating: “This administration does not believe that the 14th Amendment gives the president the power to ignore the debt ceiling – period.”
In its wake, however, new tricks to avoid the debt limit confrontation have been proffered – most prominently, the suggestion that Treasury mint a $1 trillion platinum coin. We do not pretend to be legal scholars, but there appears to be a statute granting Treasury broad authority to produce platinum coins of any denomination. The law was intended to serve coin collectors, but could represent a loophole for the administration to bypass Congress in the debt limit debate.
Even though Treasury ruled out the coin on Saturday, the ploy will undoubtedly continue to have its proponents, so considering the logistical complications is worthwhile.
There is no guarantee that the Federal Reserve would take a $1 trillion coin as a deposit if they are not completely certain of its legality. The Fed is independent and does not report to Treasury or the White House. Indeed, when Treasury announced that it would not consider minting such a coin, the statement also noted that the Fed would not accept it. As Greg Ip points out, “[b]uying a coin solely to finance the deficit is … precisely the sort of thing central bank independence was meant to prevent.”
Another possibility, which Ip also acknowledges, might be to print less exorbitantly valued coins (say, $10 million) and issue them to the public. But are private commercial banks going to accept currency that they are not absolutely certain is legal? Would the regulators of those banks even allow it? What about counterfeiting? The U.S. went to great lengths to make it difficult to counterfeit bills, but could the Treasury forge thousands of non-duplicable $10 million coins in a very limited time window?
Another “simple” solution that advocates believe can be used to skirt the debt limit is for the federal government to start issuing IOUs – in lieu of cash payments – to individuals and contractors after it runs out of money. Supporters point to the precedent of California issuing scrip in 2009, but an important distinction is that California had issued registered warrants (a fancy name for IOUs) multiple times in its history and had already established the statutory authority and financial processes to do so. The U.S. Treasury has never done this, at least not in the modern era, and what was acceptable during the Revolutionary War is probably not a good idea in a twenty-first century advanced economy.
Most U.S. government payments are now made electronically; 2013 is actually the final year in which paper Social Security checks will be an option for most seniors. Even if Treasury had the statutory authority to issue IOUs, a massive operation would have to ensue to establish the necessary financial processes and accounting in time.
Finally, no one can be sure what this undertaking would do to the broader economy. Would banks accept these IOUs? At what discount? We’d be creating a situation where lots of desperate people could easily be swindled. After all, that’s what happened to a lot of the Revolutionary War soldiers – many of them sold their bonds, which they thought were worthless, at deep discounts. The buyers were made whole because Alexander Hamilton insisted on federalizing the debt . The decision of national leaders to stand behind the debt of the states in the early days of the republic was essential to building the reputation for financial strength that the United States still enjoys today.
Even if all of the obstacles listed above could be overcome, these “workarounds” risk long-lasting damage to the reputation of the United States. The perception by investors and global allies of our country as the world’s strongest economy and reserve currency could easily change if we resorted to a trillion-dollar coin or IOUs in an attempt to avert self-inflicted wounds. Defaulting on government obligations due to prioritization or delay of payments would entail similar risks and potentially severe economic reactions.
To paraphrase Dr. Alice Rivlin, former White House Budget Director and co-chair of BPC’s Domenici-Rivlin Task Force, all of these actions make us appear to the world as a country that is not in control of its own destiny.
Economic Policy Project