Rationalization and Obligation, Part V: Differences Are Everything
This is Part V of a six part series replying to a claim by the President at his recent White House News Conference. Part I covered the News Conference and the first two (the selective default, and the exploding option) of seven options the President might use to try save the US from defaulting in the face of continued deadlock in the Congress on raising the debt limit or repealing the law enabling it in its entirety. Part II discussed Platinum Coin Seigniorage, invoking the 14th amendment to justify continuing to issue conventional Treasury debt instruments, and consols. Part III discussed premium bonds, and Treasury sales of the Government's material and cultural assets to the Federal Reserve. Part IV, then evaluated all seven options in light of variations among them in likely degree of legal difficulties they might face, and also the likely impact of each on confidence in the bond markets, if used.
In this part, I'll summarize my evaluation of differences among the various options from the standpoint of how likely each is to create the feared avalanche of litigation and uncertainty. First, the option by far most likely to create the avalanche that might shake the markets is the 14th amendment option, one of the two mentioned by the President. But, as I've emphasized, the President would have no right to exercise that one first anyway, and, on the contrary has an obligation to try other alternatives first. And if none of the alternatives were to work, then the avalanche following use of the 14th amendment will probably be mitigated, because if the 14th is the only way to avoid disaster, then, suddenly, people will begin to feel more confidence in it.
There's a great distance in the likelihood of an “avalanche” between the 14th amendment and any of the other options. Looking at the selective default option, that would greatly hurt the American economy which eventually would impact the markets, but in the short run, it seems clear that, as debts continued to be paid, confidence in US debt would likely be maintained.
Next, the two remaining debt issuance options, consols and premium bonds, are far less likely to precipitate any avalanche than the 14th option, and even somewhat less likely than selective default. The reason is that these options don't have short term economic impacts that could be harmful. They don't face serious legal challenges, in my view, and they both would lower the debt subject to the limit, while continuing to both redeem that kind of debt, and to pay it down. I think that consols are a slightly better option than premium bonds, because they seem even less legally vulnerable than premiums; but both are on the low end of the legally vulnerability scale.
Moving now to the three asset options: the exploding option, PCS and material and cultural assets sales to the Fed. I think none of them are very likely to create an avalanche of uncertainty in the markets. The reason is that whatever happens to these options in the Courts, the private sector debts that are paid using these options will remain paid and headroom will be created below the debt ceiling. So, each one is a no-loss proposition for the bond markets. The exploding and asset sales options will be seen by the markets as the Fed saving the day for the United States. That will only impress the markets with the strength of the Fed and with its backing for US debt. So there's no confidence problem with either of these options.
Also, even if litigation were to overturn the exploding option as a transparent device for giving credit to Treasury, that would have no immediate effect on confidence since by then a good bit of debt could be paid off using it, creating considerable head room under the debt limit. The chances of assets sales being overturned, are, again, very small. But, if that happened we have the same situation as with the exploding option. Asset sales would have done their work in creating headroom.
That brings us to the platinum coin. This is really the name for a category of options with different implications, beginning with the most frequently mentioned one, the Trillion Dollar Coin (TDC). Beyond that, there are options that have much smaller face values, say 20 Billion Dollar coins and much larger face values, say $60 Trillion or $100 Trillion coins, which I've called High Value Platinum Coin Seigniorage (HVPCS).
It's very doubtful that confidence in the markets would be shaken by coins in the low trillions, if the seigniorage from the Fed is used to pay down debt as it falls due, and to cover deficit spending. The effect of that would be simply to neuter the debt ceiling as a political weapon for awhile.
I have no idea what the causal channels negatively influencing market confidence might be in response to such moves. I think the world would view this as the United States Government solidifying its financial position in the face of irresponsible actions by tea party goons, and that there would be no negative impact on confidence arising from this view. But, on the contrary, the world would breathe a sigh of relief at the fever breaking, and confidence in the strength of the US financial system would soar.
The Courts are also likely to sustain PCS. They may even quickly fail to grant standing to litigants, meaning that there would be no “avalanche of uncertainty” to contend with. But even if they don't do that, what's the worst that can happen even if the Court rules against the Treasury?
Well the Court can require the Treasury to redeem the platinum coins from the Fed. But, meanwhile debt would have been paid, and either the debt ceiling would be raised to allow the Treasury time to pay back the Fed, or the Fed would wait for part of its payment until the Treasury can get the debt ceiling raised. So, where is anything that in all this can cause a market panic. I just don't see it.
I know that Ezra Klein, Kevin Drum, and others in the village think there will be a problem with market confidence because the coin move is what “a banana republic” would do, and because the coin is just “weird” and “magic,” and “from outer space.” Well, I think that's just biased BS from people who spend time with 1% financial types and who know more about the financial system than most people do, and less about what the rest of the world thinks.
From the viewpoint of the proverbial person in the street, one's coins can be deposited in one's bank. They are legal tender and must be credited by the bank. That's not “weird.” That's everyday life. And it is very familiar to people.
Sure, the face value of the coin is unprecedented in size, but look, it's just Government, and it's just the law that the US Mint can create such coins, and it's also a lucky thing they can do that because it's getting us out of the financial crisis caused by fights over the debt ceiling. So, they'll accept it.
And, further, from the point of view of that person in the street, every other option outlined here except asset sales: selective default; the exploding option, the 14th amendment, consols, and premium bonds are all more “strange,” “weird,” “magic” or from “outer space” than high face value coins are, because only a small minority among the American public understand how these work. To them, these are the magic of the 1% that they don't understand, are not interested in, and don't concern themselves with.
So, in marginalizing the coin option by labeling it in various ways, I think our mainstream village commentators are betraying the biases of the 1% they bring to the table of any public debate, and that their view on the likely legitimacy of the coin option has no basis in what most people think. It may, however, reflect the attitude that the 1% and the financial markets will take to the use of the coin. So, the question then becomes will their feeling that the coin option is “from outer space” affect the confidence the bond markets will have in US Treasury debt?
I can't see why it would. After all, the reserves from the coin will be used to repay US debt. The bond markets don't have to deal with the coin directly. They only have to deal with the reserves and the Treasuries, which they view as the world safest investment. So, why should they care whether the Treasury is getting its repayment money from the Fed by using a “magic coin.” If used as a means to pay down debt, it has no impact on them, other than ensuring that bonds will always be paid.
However, when we move to the HVPCS options, like the $60 T coin, then I'd readily grant that using the coin would shake the confidence of the markets. In fact, it should shake them, because minting a coin with that kind of face value would mean that the Treasury of the United States was going out of the business of issuing debt and their world's safest investment would be gone. So, yes, the bond markets would be shaking alright, right to their very boots.
But, on the other hand, if this happened, and the US turned to repaying debt and not issuing it anymore, then it would not take very long for those markets to come crawling on their hands and knees to the Treasury Department to beg the Government to issue debt instruments once again. In short, if confidence in the markets were shaken through using HVPCS, then that would not result in any harmful economic impact to the United States, because our need for the trust of those markets would be entirely gone.
Part VI will end this series by considering what the President ought to do about the debt ceiling/default threat and what he is likely to do.
(Cross-posted from New Economic Perspectives.)