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Prioritization of Debt-Related Payments is Technically Possible But Risky; Extraordinary Measures Could Last Through Next Summer

On May 7, according to a Reuters news report, a letter was sent to Congress from the Treasury Department indicating that the technical capability exists to make interest and principal payments on Treasury-issued debt while stopping other payments. Some have proposed that this might be a solution if the nation were up against the debt limit without sufficient cash-on-hand to make all payments in full and on time – an unprecedented situation.

While the letter indicates that Treasury has the technical capability to prioritize sovereign debt payments, the letter does not state that Treasury has the technical capability to pick and choose among other government payments, such as reimbursement to Medicare providers, tax refunds, and veterans benefits. Sovereign debt payments are made through Fedwire, which is maintained by the Federal Reserve, while these other payments are made using a different computer system. A 2012 report by the Treasury Office of the Inspector General said that Treasury’s computer systems, which make government payments that are not related to sovereign debt, were not designed to pick and choose among payments, but rather to make all payments in the order in which they come due.

Treasury emphasized in its letter that the approach described has never been tested and would come with a host of risks, among which would be the market’s response to defaulting on non-debt obligations and the reliability of Treasury operating without error under an untested financial environment.

There are also concerns about whether Treasury has the legal authority to choose which payments to prioritize, given that all of its payments are legal obligations of the federal government.

The 2012 Inspector General report suggested that the most technically viable approach, if Treasury were short of cash, would be to delay all payments for a certain day until enough revenue was collected to cover that entire day’s payments. But even such a strategy would entail significant risk and widespread consequences.

Debt Limit Unlikely to be an Issue until Next Summer at the Earliest

The debt limit was suspended in February and is scheduled to be reinstated on March 16, 2015, at a new, higher level, reflecting borrowing since it was suspended on February 15, 2014. The law suspending the debt limit includes a section prohibiting the administration from “running up the debt,” or issuing more debt than necessary to fund obligations that require payment before March 16, 2015, in order to delay the need for extraordinary measures.

After reinstatement, Treasury will have available the full complement of extraordinary measures to temporarily generate additional cash to meet financial obligations while still complying with the debt limit. The availability of these measures, along with positive cash flow during the end of the tax filing season, will allow the federal government to continue to make all payments when due for some time, probably well into the summer, and possibly into the fall.

Alex Gold contributed to this post.

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