Debt Limit & Default
Recently, H.M. Stuart posed the following query:
I have heard it claimed recently that, if the current debt ceiling is not raised, the U.S. would not be able to cover the interest currently due on our national debt and other immediate obligations and would immediately default. . . .
I have also heard it claimed recently that . . . current U.S. Treasury receivables are easily sufficient to pay such current obligations many times over.
What is the true situation, as best you can discover?
What follows is my attempt at an answer.
1. The term “default,” as applied to the federal government, is ambiguous. It could either refer to:
- Inability of the government to pay principal & interest on the outstanding stock of federal debt; or
- Inability of the government to pay obligations besides federal debt, such as salaries, entitlements, tax refunds, etc.
Since “default” is commonly defined to mean “failure to meet financial obligations,” either of the above could be characterized as “default.” Given that federal outlays currently exceed receipts by a considerable margin, default on non-debt obligations appears highly probable absent a debt-limit increase or massive tax increases. This may well be highly unfortunate, but I doubt it would induce the financial catastrophe that would likely result from a default on the national debt. It is this sort of default that I – and methinks many others – have in mind when they worry about the federal government defaulting. Default on the national debt, however, is probably avoidable even if the debt limit stays constant. Preventing debt default would have two aspects: rolling over the current stock of federal debt, and paying interest on the debt.
2. Rollover: When a given portion of the national debt comes due, Treasury rolls it over: it sells new issues of bonds & bills, and uses the resultant proceeds to pay off maturing debt issues. These rollover operations could still continue even if fedgov hit the debt limit. Since the debt limit provision merely establishes an overall limit on outstanding debt, and does not specifically prohibit new issues of debt, ISTM Treasury would still be able to issue new debt to “roll over” existing debt issues as they expired.
3. Interest Payments: Treasury would still receive revenue from taxes, and could use a portion of this revenue to pay interest on the debt. Monthly Treasury Statements for the previous 18 months show monthly revenue exceeding gross interest payments by a significant margin. According to the March 2011 MTS
- Total Receipts were ~$1.02 trillion through March 2011, and were estimated at $2.17 trillion for the full fiscal year.
- Gross interest payments were ~$216 billion through March 2011, and were estimated at $430 billion for the full fiscal year.
It therefore appears that Treasury could continue paying interest on the national debt even if the debt limit weren’t raised.
4. Of course, the foregoing analysis assumes that Treasury prioritizes debt rollover & payment of interest above other obligations. Arguably, Sec. 4 of the Fourteenth Amendment mandates such prioritization, by mandating that “The validity of the public debt of the United States, authorized by law . . . shall not be questioned.” ISTM Treasury also has the power to prioritize in this manner. Although I’m unaware of any court cases addressing this question, a 1985 GAO report did conclude that Treasury is “free to liquidate obligations in any order it finds will best serve the interests of the United States.” A 1981 OMB memorandum implicitly concurs, by outlining which governmental functions that would continue during a lapse in appropriations. Finally, even though a recent statement by Deputy Secretary of the Treasury Neal Wolin deemed prioritization “unworkable,” it stopped short of asserting that Treasury is prohibited from prioritizing in this manner.
5. Given such prioritization, ISTM the US would avoid the ill effects suggested by the first three bullets of a recent Treasury Notes blog post, i.e., “default on legal obligations of the United States,” a default-induced economy-wide increase in “all borrowing costs,” and “prolonged and far-reaching negative consequences on the safe-haven status of Treasuries . . . .” OTOH, as noted in a recent CRS report:
Even if the government continued paying interest, it is not clear whether creditors would retain or lose faith in the government’s willingness to pay its obligations. If creditors lost this confidence, the federal government’s interest costs would likely increase substantially.
The probability of such a crisis in confidence depends on the psychology of those holding Treasury securities. I have insufficient data to guestimate this probability.