At the end of last year, the United States government has reached the legal limit for how much money it can borrow, commonly known as the "debt ceiling", which is just shy of $16.4 trillion. This means that the Treasury is no longer allowed to borrow any money (except to roll over existing debt) to finance government operations and the resulting $1.1 trillion annual deficit.
The Treasury has been able to cope so far by temporarily suspending investments into pension plans, but that measure can only last for a couple of months. After this time, unless Congress has agreed to increase the debt ceiling, the government will have to find another way to close the gap.
Many ideas have been floated around. Many of them are ridiculous, and some of them would open the government to a legal challenge of some sort. But they're worth at least exploring.
1. Prioritize Government Payments
This would involve the government paying some of its bills on time and not paying others. In order to avoid a technical default on its debt, they would pay the interest and principal on the debt first, and then pick and choose which other bills (Social Security, wages, contractors, etc) to pay on a given day.
This will avoid a technical default in the sense that the debt will still be serviced, but it will require the government to default on its other obligations, which may still be a sign of lack of creditworthiness. Further to that, the sudden drop in spending will be much greater than what would have happened had the "fiscal cliff" debate last year not been resolved, and the US would have certainly returned to recession. Finally, those who did lose out in getting their bills paid would certainly have grounds to sue the government.
2. Trillion Dollar Coin
Title 31 of the United States Code allows the US Mint to mint platinum coins of any specification and any denomination, and the section that authorizes it also says that all coins issued under that title are considered legal tender. Therefore, the Treasury should be able to mind a platinum coin, declare it's value to be one trillion dollars, deposit it into its bank account and use it to fund its operations for another year.
Obviously, the law was not intended to be used this way; it was supposed to be for commemorative coins that are gathered by collectors, and some Republican lawmakers are planning legislation to close this loophole. Further, as this coin will not be backed by anything (there isn't even a trillion dollars worth of platinum to mint it), it raises inflationary concerns. In the two years after WWI, because Germany had to print money to pay its reparation bills, the mark lost about 75% of its value. While a single trillion dollar coin will not lead to that quick of a drop in the dollar's value, it sets a potentially dangerous precedent.
3. Invoke the Fourteenth Amendment
The 14th amendment to the US Constitution states that, among other things, "[t]he validity of the public debt of the United States, authorized by law, [...] shall not be
questioned." This amendment was brought into force at the end of the Civil War, when it was feared those in the Confederate States would hold the US debt hostage to get them to pay for their damages. In the end, this never materialized as the passing of this amendment became a precondition for the Confederate States being re-admitted into the union. (This amendment also deals with things like citizenship for former slaves, but that's another topic entirely.)
The theory goes that, as Congress has required the Executive to spend more than it has taxed, the debt ceiling itself is against the Constitution. The President would then be able to declare so and subsequently instruct the Treasury to borrow more money. A simple read of the Constitution, however, will find that argument fall flat on its face. Article I states that it is the Congress, not the Executive, that has the power to borrow money, and the 14th amendment clearly specifies that the public debt must be "authorized by law", and any borrowing above the debt ceiling would not be.
Let's assume for a minute, though, that a legal way can be found for this. Before the first debt is sold, dozens (if not hundreds) of lawsuits would be filed against the government, and it will make its way eventually to the Supreme Court. This process takes a couple of years, during which time there will be uncertainty about the legitimacy of this debt. The higher risk would mean investors will demand higher interest, to the point where it would become unaffordable for the government to borrow. Assuming the deficit stays where it is, these investors would risk losing around 5% of their loaned money for every year the court battle goes on, and will demand interest rates of around that (above what they're already getting) to cover this uncertainty.
Thankfully, President Obama has said that this option is off the table, and Republicans in the House say that if he tried that, he'd certainly get impeached.
4. Government forgives its own debt
It is estimated that $6.4 trillion of government debt is owned either by government or a subsidiary of government. $4.8 trillion is held in a number of trust funds, such as for Social Security, Medicare and military retirement, while the other $1.6 trillion is owned by the Federal Reserve. The theory is that, if the government simply forgives its own debt, it would bring them well underneath the debt ceiling.
First of all, many of these trust funds are in enough financial trouble as it is, so nobody will dare tear up the debts held in any of these funds. But what about those in the Federal Reserve? After all, profits from the Fed go back to the Treasury, so the government is essentially paying themselves interest, and forgiving the debt will buy another year and a half underneath the debt ceiling.
However, cancelling the debt owned by the Fed would be seen by the markets as selective default. This will inevitably mean that investors will start demanding higher interest rates fearing that they might be next if it happens again. As well, these Treasuries back the substantial amounts of money that the Fed has printed over the course of the financial crisis (i.e. Quantitative Easing), and selling these Treasuries is how they plan to take that money out of the economy once it's back to health. If the Fed has no Treasuries to sell, the cash will simply continue to circulate, leading to inflationary pressures greater than those brought by the trillion dollar coin.
5. Exploding Option
An option, in financial terms, is the right (but not the obligation) to either buy or sell an underlying asset at a given price some time in the future. The idea, according to Yale law professor Jack Baldwin, is that the government could create an option to buy government property, raise two trillion dollars by selling it to the Federal Reserve, and use that money to finance government operations.
The problem, as with the trillion dollar coin, is that it would essentially require the printing of more money to actually purchase the option. At least with Quantitative Easing, there is an expectation that the assets purchased will be sold back and the money raised subsequently destroyed; this is not the case with an option, which has zero value after its expiration. On top of the inflationary pressures that would result from printing the money to buy the option, if the Federal Reserve decides to exercise it, the government will have no choice but to sell the underlying property to them.
6. Take Spending Off Balance Sheet
The government has, in the past, created "Government Sponsored Enterprises" (GSEs) in order take certain activities off the government's balance sheets. The best-known of these entities are the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac), which deal with guaranteeing many mortgage-backed securities. Why not have the Department of Agriculture work under the Federal Agricultural Mortgage Corporation for a few months until this debt ceiling is dealt with?
The intent of a GSE is more about targeting credit to certain parts of the economy, such as mortgages, student loans or agriculture. Not only that, but many GSEs are not actually owned by the government, but rather owned privately, and the government forcing them to take on these staff will lead to vigorous lawsuits by the shareholders of these GSEs.
George Bush Jr's method of taking the War in Iraq off balance sheet will not work for two reasons. This was funded by "Emergency Supplemental Bills", which are supposed to cover things that cannot be reasonably budgeted, such as Hurricane Katrina in 2005. Not only would you require a competent Congress in order to enact such a bill, it still counts towards the debt ceiling.
7. Sell Assets
The US government has a number of assets which it would be able to sell if it needed the cash. On top of over $420 billion in gold reserves, there are also, as of 2011, $772 billion in loans made by government to the public (primarily student loans). Selling these assets can buy as much as another year underneath the debt ceiling. Though unlikely this will be necessary, the government also has around $1.7 trillion worth of other property that it can sell.
This can be a legitimate way to raise money, as there will be plenty willing to purchase these assets. However, the government has to be careful that it doesn't depress the value of these assets as the UK did in the late 1990s and early 2000s, when then-Chancellor Gordon Brown pre-announced its sales of its gold reserves and sent prices down 10%. It will also have to decide which assets, if any, to buy back once the debt ceiling is raised, and as with any investment (you could argue this as a short sale), there is a risk-reward aspect that the government will have to take into account.
8. Sponsorship
The
government owns a number of popular tourist attractions, including
national parks, memorials, and other monuments, most of which are managed by the National Parks Service. These could become prime
locations for advertising and general promotions, as they would be seen by
millions of people every year who would link the brand to the
attractions.
This has the potential to raise a lot of money. For example, I suspect the competition to name The (company name)
Statue of Liberty would be just as fierce as getting an ad in the Super
Bowl. This, however, could backfire; the American public already
believes that there is too much self-serving money in politics and
government, and a step like this will only further this view. The law prohibits any privilege or lease on any property maintained by the NPS that will damage the purpose of the memorials or prevent the public from being able to access them, but it's hard to rule out something being done to limit their appeal (say, a giant logo on Lady Liberty).
9. Registered Warrants (IOUs)
This is similar to prioritizing payments as above, but instead of people receiving nothing at all, they would receive a registered warrant, or an IOU, instead of a regular check. The warrant would be an acknowledgement from the government that they are owed money, and will be paid once the government has the funds to do so. Those who need the money right away will be able to sell these IOUs to other parties, such as their banks, though likely at a discount to what they'd get if they held onto them.
This has been done in the US before. During 2009, the state of California issued $2.6 billion worth of these warrants to 450,000 individuals and businesses when it ran out of cash (as a result of a similar kind of squabbles in the legislature). This lasted for about two months until the legislature decided to do its job and raise cash. The State of California paid interest on these IOUs, but it's unclear whether the federal government would do so given how low interest rates are already. There is also a fear that, if the standoff continues for more than a few months, banks will stop accepting the IOUs, leading effectively to the same economic slowdown as stopping payments entirely.
10. Just raise the bloody Debt Ceiling
Or better yet, abolish it altogether. Everyone agrees that the debt and deficit are too high, but a debt ceiling does practically nothing to control it. At least it hasn't the 15 times it was raised between 1980 and 2010. All it does is prevent the government from paying the bills that it was told to pay, and risks the full faith and credit of the United States, not to mention the entire global economy.
Warren Buffet has suggested a law that would ban members of Congress from being eligible for re-election if the deficit is greater than 3% (right now it hovers around 9%). Such a law will never happen so long as the politicians are self-serving partisans, but it would prevent us from getting to this stage again.
Got any other ideas to resolve this debt ceiling standoff? I'd like to hear them below!
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