I would assume by now after over 500 posts that my BS take on the US government is known - worthless politicians. So, in this RARE total re-print - this is what really happens and what in all likelihood will happen when the USA `defaults' on Aug. 3rd:
The White House insists the U.S. government will not be able to stay current on all of its obligations as of Aug. 2 unless the debt ceiling is raised.
But can the government of the United States ever really run out of money?
The question is a bit more complex than it might seem. In some ways the government really is like every ordinary American family. It has a bank account. Every day the funds in that account grow by the amount of deposits that are made and shrink by the amount of withdrawals.
At the start of the day last Friday, the bank account of the United States government at the Federal Reserve Bank of New York had $83 billion in it. That day the bank received $7 billion in deposits, and saw around $13 billion in withdrawals. So by the end of the day we were down around $6 billion, to $77 billion.
Deposits come from tax receipts, air transport security fees, the postal service, Medicare premiums, and earnings from the Federal Reserve itself. Withdrawals go to pay for everything the government does: federal employee salaries, income tax refunds, NASA, interest on our debt, unemployment insurance benefits and paying defense contracts.
A big source of deposits for the government is usually the government selling bonds. And that’s where the debt ceiling comes in: if the government cannot sell any more bonds because it’s hit the debt ceiling, it won’t have the funds to pay for all those things it makes withdrawals for. That includes social security checks and interest payments on the debt.
So what happens next?
When the government writes a check, it goes to whomever is getting paid. The payee then deposits it in its own bank account. The bank then submits it to the Federal Reserve for clearing.
So far, that’s just pretty much the same thing that happens when anyone else writes a check. Except for something very strange—the Obama administration seems to be insisting the Federal Reserve would not allow the U.S. Treasury Department to overdraw its account.
Millions of Americans have overdraft protection on checking accounts that allow them to write checks in excess of the amounts deposited in the accounts. These are sometimes controversial because banks often attach high fees to overdrafts, which mean that you could put a $3 cup of coffee on your debit card and get hit with a $35 fee. But those kind of fees are generally waived for very wealthy bank customers who, ironically, enjoy feeless overdrafts.
When I was a lawyer I was never terribly wealthy. But I did enough business with my bank that it gave me a free overdraft. If I could have that kind of protection as a young associate in my 20s, shouldn’t Treasury Secretary Tim Geithner be able to get the same deal from the Federal Reserve bank he used to run?
In truth, the Obama administration is either fibbing or misunderstanding the financial system. The United States almost certainly enjoys unlimited overdraft protection from the Federal Reserve because there is almost zero chance the Federal Reserve would ever bounce a check written by the U.S. government.
Think about it. The check comes into the Federal Reserve. It looks at the U.S. government balance and discovers that we’re at zero. What does the Federal Reserve do?
I’m pretty sure the Federal Reserve would go ahead and credit the bank submitting the check with the deposit to account for the fund transfer.
Legally, this is a bit murky. It’s not clear that the Federal Reserve would be required to clear a check that exceeded the amount on deposit. It may be within its authority to reject the check.
But rejecting a check written by the government of the United States would probably violate the dual mandate of the Fed to pursue maximum employment and price stability. A U.S. government that bounced checks would just introduce so much chaos the Fed would likely be obligated by its core mandates to credit the check.
This leads to the next question: Would having the Fed credit the account of a bank that presented a check on the U.S. Treasury Department's empty account amount the incurrence of new debt in violation of the debt ceiling?
The law is not exactly clear on this point. The debt ceiling applies to the face amount of obligations issued under Chapter 31 of Title 31 of the U.S. Code—basically, Treasury notes and bills and the other standard kinds of government debt—and the “face amount of obligations whose principal and interest are guaranteed by the United States Government.” But overdrafts on the Federal Reserve wouldn’t be Treasurys and they aren’t explicitly guaranteed by the U.S. government.
They’re more like unilateral gifts from the Fed.
And guess what? The Treasury is allowed to accept gifts that “reduce the public debt.” Since these overdraft gifts from the Fed would allow the government to spend without incurring additional debt, it seems very plausible to argue that this kind of extension of U.S. credit would be permitted under the debt ceiling.
Notice that this would do something very odd. It would give the U.S. Treasury Department control of the money supply—something usually credited to the Fed. But by writing checks on an empty bank account, the Treasury would be inflating the money supply. It would be printing money to pay its bills, more or less. Monetizing its obligations, rather than borrowing or taxing to pay them.
In order to keep inflation under control, the Fed would have to intervene to soak up the extra dollars by selling securities.
Here’s how Peter Morici, the former chief economist at the U.S. International Trade Commission, describes it:
Now, the Treasury could print money to pay its bills, and the Fed could soak up the excess liquidity by selling its Treasury holdings. Between the Fed’s holdings of Treasurys, and Fannie Mae and Freddie Mac bonds and other securities held by the Fed, this drill could keep the government going and all creditors paid for another 18 months.
So the Treasury cannot actually run out of money. It can only run out if it decides—that is, if Secretary Geithner and President Barack Obama choose—to stop writing checks sufficient to pay all of our obligations.
As BS said - worthless politicians.
Thanks for Barfing today.
Debt Defaults and Lessons from a Decade of Crises
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