Thursday, April 28, 2011

Ignoring the Debt Limit

-- Posted by Neil H. Buchanan

If the U.S. government were to exceed its legal limit on issuing debt, what would happen? In the context of budget debates, this question is usually posed in its smart-alecky version: "What, are you going to put everyone in Washington in jail?" In a way, this is a variation on Stalin's famous rhetorical question: "How may battalions does the Pope have?" We can say that we have a budget rule, but what happens if we simply ignore it?

Earlier this week, Professor Dorf (here) and I (here) discussed why the Republicans' current attempts to use the debt limit to force concessions on spending are in a new category of outrageous political conduct. The stakes are so high, we both argued, that holding the debt limit hostage to policy disagreements was to tempt a horrible fate. Our analyses, however, assumed that the inevitable consequence of a failure to increase the debt limit would be default -- that is, that some U.S. debt obligations could not be paid, leading to loss of confidence in U.S. financial securities, and ultimately to global depression.

A postscript to Professor Dorf's post, however, provided a link to a column on CNBC's website that argued that this is all much ado about nothing. The column (written by their Senior Editor John Carney, about whom I know nothing beyond what he wrote in the column in question) argues, in essence, that there is no debt limit, because Treasury Secretary Geithner has the power -- extra-legal power, but power nonetheless -- to continue to issue debt even after the legal limit is reached. Could this be true? And if it is, how should that change the political calculus of the debt limit standoff?

An excellent report from the Congressional Research Service, dated March 7 of this year, provides a summary of the history and current data relating to the debt limit. The debt limit is a statutory requirement, not a Constitutional mandate. Section 3101(b) of Title 31 of the U.S. Code is an unassuming little provision that dates to 1917, amended regularly, stating: "The face amount of obligations issued under this chapter and the face amount of obligations whose principal and interest are guaranteed by the United States Government (except guaranteed obligations held by the Secretary of the Treasury) may not be more than $xx, outstanding at any one time." ($xx currently equals just under $14.3 trillion.) Getting rid of the debt limit entirely would involve repealing sec. 3101(b).

Should we abolish the debt limit? Obviously, yes. Even before the current political craziness set in, the periodic debates on the debt limit amounted to nothing more than political theater. Everyone was given a chance to talk about how irresponsible the government is, and then they would vote to increase the debt limit. The exercise was silly, but harmless. Now, it has become harmful, and potentially catastrophic, because we might not be treating it as a fait accompli (and not just because that is a French phrase).

The CRS report noted above briefly discussed the question of whether there should be a debt limit. The best they could find on the "pro" side was the claim that the debt limit "expresses a national devotion to the idea of thrift and to economical management of the fiscal affairs of the government." Even by Washington-speak standards, that is embarrassingly fatuous. (On the "con" side, CRS noted that Bruce Bartlett, a former tax official in Republican White Houses, is in favor of abolishing the limit.)

Even if one believed that it is important to express national devotion to thrift, however, the debt limit is a ridiculous way to go about it. There is no good argument, based on any serious economic analysis, that the dollar amount of debt matters. Having $14 trillion in nominal debt when the economy is producing $15 trillion in GDP is quite different from having $14 trillion in debt when the economy is producing $1.5 trillion or $1,500 trillion in GDP. Moreover, the debt limit includes debt held within government accounts, treating such internal debt as "outstanding." Roughly one-third of the government's debt subject to the limit is held in internal federal accounts, making that debt "outstanding" only in a formal sense, not a meaningful economic sense.

All of which adds up to the argument that we should abolish the debt limit, or at least transform it into a limit on the ratio of debt to GDP, where we only include in the numerator debt held by the public. That, however, is not the current law. In the article noted above on CNBC's website, Carney argues that Secretary Geithner will simply ignore the law, rather than allow the government to default. This argument cannot be based merely on Geithner's infamous personal tax problem (failing to pay certain taxes while he was at the IMF). That is, Carney's suggestion is not that Geithner will ignore the law but that any responsible Treasury Secretary would do so, under those extreme circumstances. I agree, but I do not think that doing so would ultimately do enough to limit the damage that the threat of default is already having on U.S. creditworthiness.

Carney raises some of the important "Pope's battalions" questions. He suggests, for example, that no federal judge would stop the Treasury from doing what is necessary to protect the nation's credit-worthiness, essentially as a matter of justiciability, but also because no "judge wants to be known in the history books as the guy who ordered America to default."

One can certainly imagine the political firestorm that would erupt if, after failing to reach an agreement with Republicans to increase the debt limit, the Obama administration were simply to order the Treasury to continue to issue more debt. Surely, we do not tolerate rank lawlessness in this country! The outrage that would emanate from the Right (including a big segment of the Democratic Party, I would add) would dwarf their hysteria over TARP or the health care law.

Despite our claims of innocence, however, we are quite accustomed to ignoring blatant violations of the law in this country. The years 2001-09 were, to a large degree, an extended experiment in seeing just how much an administration can get away with, if its leaders are only brazen enough to try. (Torture? Redefine it.) The political calculus of Cheney et al. was simply that they could not be stopped. If someone at a government agency or a U.S. attorney's office tried to do his job under the law, that person would find himself either fired or the recipient of an intimidating visit by Cheney himself. Even since January 2009, no one has tried to arrest Bush or Cheney for the war crimes to which they have happily confessed.

We have good reason, of course, to suspect that Obama is nothing like Bush or Cheney in this regard. Either because of a fear of political consequences, or perhaps due to a deeper sense that the ends do not justify the means, Obama might well choose not to allow his Treasury secretary to save the republic by ignoring the law.

Even if Obama were so inclined, however, it might not be enough simply to issue debt after the statutory limit is reached. The only way to calm markets would be to announce in advance that we will not default, no matter what. That option is obviously off the table, for any number of reasons. The best that we could imagine, therefore, is an ad hoc action to prevent default, announced shortly after it is carried out. The ensuing political fistfight would lead to promises that such a thing could never happen again.

Even such a brazen effort to save the creditworthiness of the United States, therefore, could not avert the damage that such a political battle would inflict. While we would still have a clean record in terms of never having defaulted on U.S. government debt -- which is extremely important -- so much damage would have been done that we would not emerge from the crisis with the sense that "the U.S. government really will never default on its debts." The current crisis, caused by the new Republican majority's insistence on taking a nonsensical and self-destructive stand against government debt -- is already harming the country. In the next few months, it will only get worse.


tjchiang said...

Roughly one-third of the government's debt subject to the limit is held in internal federal accounts, making that debt "outstanding" only in a formal sense, not a meaningful economic sense.

While that is quite true, a good chunk of that is (I believe) the social security trust fund. I think you wrote a while back that maintaining the social security "legal fiction" was rather important.

Neil H. Buchanan said...

Doing what I suggest would in no way change or undermine that very important legal fiction.

tjchiang said...

But it does. If you say that debt held by the federal government is not "outstanding," then you imply that it is second-class or not "real" debt. And if the debt being held by the trust fund is not real, then the trust fund itself becomes less real as well.

tjchiang said...

To be clear, I am talking about your alternative proposal to count only debt held by others in the debt limit. Abolishing the debt limit altogether would obviously not affect this issue. But if you have a debt limit that restricts the amount of debt you can sell to "other people," and no limit on the amount you can sell to "yourself," the message is pretty clear. And the message that the trust fund is indistinguishable from the general budget of the federal government.

Neil H. Buchanan said...

Perhaps a few Tea Partiers (the ones who want the government to keep its hands off Medicare) think that Social Security is not a part of the government. Treating the Trust Fund as an important legal obligation, however, does not require anyone else to think of Social Security as "not part of the federal government." It only requires people to understand that the Trust Fund is a separate, internally-binding account that guarantees that the government will either raise taxes, cut other spending, or borrow money to cover withdrawals from the Trust Fund in the future. That has nothing at all to do with defining the government's debt as the amount of money that it currently owes to non-governmental entities that have lent it money in the past.

tjchiang said...

We are talking appearances here. The whole point of the trust fund is to emphasize its seperateness, so that it appears more akin to external creditors. You can mock the people who don't realize that social security is not seperate from the rest of the government; but those people are precisely the relevant audience. Legal fictions are not for convincing people who already know the secret.

Saying that social security is seperate and internally binding is made less convincing when the very distinction you draw (between internal and external creditors) deemphsizes the seperateness, and the internally binding part is precisely the content of the legal fiction. Unlike external creditors (whose debt's binding nature comes from economic substance, namely the consequences of default); the trust fund's debt is as internally binding as Congress makes it.

tjchiang said...

Or, in other words, if you start mocking a statement like "keep your government hands off the Fed", the mocking would undermine the Fed's independence. The Fed. is of course part of the government. But it is important that people don't think of it in such terms.

Michael C. Dorf said...

I think there is not much distance between Professors Buchanan and Chiang here. A while back Buchanan said it's important to treat the debt that the government owes to the Social Security fund as real. Chiang says that if you want to do that, then you shouldn't propose measures that will undermine the public perception of this debt as real, and that excluding debt owed to the Social Security fund from the debt limit figure has that effect. I think that's possible to some extent, but I do not read Buchanan as having said in the first place that debt owed to the Soc Sec fund must be treated identically to private debt in order for it to be perceived as real.

The analogy to the Fed is instructive. Reinforcing notions of the Fed as independent is important, but doing so doesn't preclude recognizing for some purposes, that it is also part of the government. Thus, for example, we can insulate the Fed from political pressures through the appointments and removal process, but still treat the Fed as a "state actor" for purposes of constitutional law. I read Buchanan to be making a similar move here.

Now how about some comments about my (much more inflammatory) piece today on arbitration!

philip mause said...

I wonder whether the budgetary and tax enactments of Congress impliedly repeal or abrogate the existing debt limit. It would be easy to point to enactments of Congress since the enactment of the latest debt ceiling which make it impossible for the Government to adhere to the ceiling. Isn't this a good argument that the ceiling has been repealed or at least amended by implication?

Shak Olreal said...

PostScript Professor Dorf office, however, provided that a column of links on the website of CNBC that said that this is much ado about nothing. Column (written by the director, John Carney, of which I know nothing of what he has written in this column) argues, in essence, that there is no debt limit, because the minister has the power to Geithner - the extra- legal power, but power, however - continue to provide the debt even if the legal limit is reached. This could be true? And if so, how would that change the political calculus in stalemate debt limit?WOW GoldRS GoldCheap tera goldCheap Tera GoldTera Power LevelingTera AccountTera ItemsRS GoldBuy RS Gold Eden EternalEden Eternal ReviewEden Eternal Gold

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Two tu said...

We can say that we have a budget rule, but what happens if we simply ignore it?

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