The U.S. Treasury Will Not Default

I received this in an email this morning, but do not know who the original author was. Nevertheless, it is well worth the read.

Despite all the rhetoric and posturing we see in the media and in Washington D.C., it is safe to say categorically that the U.S. Treasury will not default on its debt after August 2nd, even if the debt ceiling is not raised.  Not only will the Treasury be able to pay interest on U.S. debt obligations, but there is money for other essential programs as well.  However, there will be some serious cutting that has to happen because spending clearly exceeds revenues. [my underlining added here and below]
I believe a debt ceiling limit extension will be enacted.  However, let’s consider what might happen if the debt ceiling limit is not raised. Here in a Q&A format is what I believe you need to know at a basic level.
Q: What is a default?
A: In this case, a default would be the failure by the U.S. Treasury to make payments of principal or interest on its debt in a timely manner.
Q: In a given month how much does the Treasury owe as interest on its debt?
A: Roughly about $15–20 billion (more on this in a moment).
Q: How much revenue does the Treasury take in on average in a month?
A: Roughly about $200 billion.
Q: Are you saying the Treasury could pay interest on its debt 10 times over (or more) from monthly income?
A: Yes.  Therefore the likelihood of not paying interest on its debt is zero.
Q: But, what about redeeming bonds that come due?
A: As bonds come due, the Treasury would again use monthly income to pay them off. This would lower the debt owed beneath the so-called debt ceiling.  Then, the Treasury could turn around and issue debt in that amount up to the debt ceiling.
Q: Why then do Treasury Secretary Geithner and others in government make such apocalyptic statement about the horrors of default.
A: I’m afraid Secretary Geithner and others in government are doing the moral equivalent of yelling “Fire!” in a crowded theater and they are doing so for political reasons rather than financial reasons.  They simply do not want any interruptions in the bloated spending underway in Washington and they want to scare Americans into thinking the end of the world is nigh unless the gravy train keeps chugging along.
Math is hard for politicians
Now, let’s do the math to flesh out some of these points.  I know that for many politicians and pundits math is hard, but I’ll try to make it as simple as possible. If we do not raise the debt ceiling by August 2nd, we will not default on Treasury obligations.  Nor, will we have trouble making Social Security payments.  However, there would be a big drop — roughly 44% — in government spending because that percentage represents the difference between government revenues which would be about $200 billion for the full month of August and $172 billion for August if we start counting after the first week when the deadline hits.  Spending is slated to be over $300 billion that month.
Here are the numbers from an excellent and highly detailed study by the Bipartisan Policy Center (BPC) quoted in this piece [emphasis added]:

…The BPC study found that the United States is likely to hit the debt limit sometime between August 2 and August 9. “It’s a 44 percent overnight cut in federal spending” if Congress hits the debt limit, [BPC's Jay] Powell said. The BPC study projects there will be $172 billion in federal revenues in August and $307 billion in authorized expenditures. That means there’s enough money to pay for, say, interest on the debt ($29 billion), Social Security ($49.2 billion), Medicare and Medicaid ($50 billion), active duty troop pay ($2.9 billion), veterans affairs programs ($2.9 billion).
That leaves you with about $39 billion to fund (or not fund) the following:
Defense vendors ($31.7 billion)
IRS refunds ($3.9 billion)
Food stamps and welfare ($9.3 billion)
Unemployment insurance benefits ($12.8 billion)
Department of Education ($20.2 billion)
Housing and Urban Development ($6.7 billion)
Other spending, such as Departments of Justice, Labor, Commerce, EPA, HHS ($73.6 billion)
The decision to prioritize payments would fall on the Treasury department, and Powell points out it would be chaotic picking and choosing who gets paid (in full or partially) and who doesn’t…

No doubt picking and choosing who gets paid and who doesn’t would be chaotic.  And, lots of programs would not get their funding and that would lead to plenty of screaming.  Nonetheless, it should be clear from this exactly how much we are spending in excess of government revenues.  And, that could and should lead to a sober assessment of what government can and cannot do.
What about the bond market vigilantes
Earlier, I posted some of the thoughts of hedge fund manager Stanley Druckenmiller who discussed a potential Treasury bond default in a solid piece in the Wall Street Journal.  With his experience in the bond market, Druckenmiller’s voice adds a dose of common sense and street smarts to the discussion of the U.S. government debt ceiling and what might happened if the ceiling does not get raised.
In the piece, he pours cold water on the fiery and apocalyptic language being used by Treasury Secretary Geithner, Fed Chairman Bernanke and many others [emphasis added]:

…One of the world’s most successful money managers, the lanky, sandy-haired Mr. Druckenmiller is so concerned about the government’s ability to pay for its future obligations that he’s willing to accept a temporary delay in the interest payments he’s owed on his U.S. Treasury bonds—if the result is a Washington deal to restrain runaway entitlement costs.
“I think technical default would be horrible,” he says from the 24th floor of his midtown Manhattan office, “but I don’t think it’s going to be the end of the world. It’s not going to be catastrophic. What’s going to be catastrophic is if we don’t solve the real problem,” meaning Washington’s spending addiction.

As he holds Treasuries himself, it is clear that Druckenmiller has his own money on the line.
I have pointed out before that Geithner makes the flying leap from a failure to increase the debt ceiling to actual default, that is non-payment of interest on the debt we already have.  Even if the debt ceiling is not increased, the Treasury has plenty of funds to pay interest on existing debt.
The Wall Street Journal continues:

…It’s hard to think of someone with more expertise in the currency and government-debt markets, but Mr. Druckenmiller’s view on the debt limit bumps up against virtually the entire Wall Street-Washington financial establishment. A recent note on behalf of giant banks on the Treasury Borrowing Advisory Committee warned of a “severe and long-lasting impact” if the debt limit is not raised immediately. The letter compared the resulting chaos to the failure of Fannie Mae and Freddie Mac and warned of a run on money-market funds. This week more than 60 trade associations, representing virtually all of American big business, forecast “a massive spike in borrowing costs.”
On Thursday Federal Reserve Chairman Ben Bernanke raised the specter of a market crisis similar to the one that followed the 2008 bankruptcy of Lehman Brothers. As usual, the most aggressive predictor of doom in the absence of increased government spending has been Treasury Secretary Timothy Geithner. In a May 2 letter to House Speaker John Boehner, Mr. Geithner warned of “a catastrophic economic impact” and said, “Default would cause a financial crisis potentially more severe than the crisis from which we are only now starting to recover.”

It should be no surprise that Geithner is peddling such nonsense and it should be no surprise that Wall Street firms and government dependent agencies such as Fannie Mae are trumpeting similar views.  They don’t want the government gravy train to stop chugging along.
The WSJ continues:

…Mr. Druckenmiller is puzzled that so many financial commentators see the possible failure to raise the debt ceiling as more serious than the possibility that the government will accumulate too much debt. “I’m just flabbergasted that we’re getting all this commentary about catastrophic consequences, including from the chairman of the Federal Reserve, about this situation but none of these guys bothered to write letters or whatever about the real situation which is we’re piling up trillions of dollars of debt.”…

Good point.  The debt ceiling is a technicality.  The long-term issue is the size and scope of government and growing debt is just a symptom of that.
Update: On CNBC last week, Warren Buffett had a very good comment:

"I could end the deficit in 5 minutes. You just pass a law that says that anytime there is a deficit of more than 3% of GDP all sitting members of congress are ineligible for reelection."  

Hat tip for Buffett comment: Barry Ritholtz
See also:
How I cut the deficit and saved the country
U.S. Deficit: Tax increases will never be enough

One Lawman With the Guts to Go After Wall Street

http://www.truthdig.com/report/item/one_lawman_with_the_guts_to_go_after_wall_street_20110518/

Posted on May 18, 2011

By Robert Scheer

The fix was in to let the Wall Street scoundrels off the hook for the enormous damage they caused in creating the Great Recession. All of the leading politicians and officials, federal and state, Republican and Democrat, were on board to complete the job of saving the banks while ignoring their victims ... until last week when the attorney general of New York refused to go along.

Eric Schneiderman will probably fail, as did his predecessors in that job; the honest sheriff doesn’t last long in a town that houses the Wall Street casino. But decent folks should be cheering him on. Despite a mountain of evidence of robo-signed mortgage contracts, deceitful mortgage-based securities and fraudulent foreclosures, the banks were going to be able to cut their potential losses to what was, for them, a minuscule amount.
In a deal that had the blessing of the White House and many federal regulators and state attorneys general—a settlement probably for not much more than the $5 billion pittance the top financial institutions found acceptable—the banks would be freed of any further claims by federal and state officials over their shady mortgage packaging and servicing practices and deceptive foreclosure proceedings.

At the same time, the SEC and other federal regulatory bodies are making sweetheart deals with the bankers to close off accountability for creating and collecting on more than a trillion dollars’ worth of toxic mortgage-based securities at the heart of the nation’s economic meltdown—a meltdown that has seen the national debt grow by more than 50 percent, stuck us with an unyielding 9 percent unemployment and left 50 million Americans losing their homes to foreclosure or clinging desperately to underwater mortgages. On top of which an all-time high of 44 million people are living below the official poverty line and fewer new homes were started in April than at any other time in the past half century. With housing values still in free fall, we continue to make the bankers whole.
As Gretchen Morgenson reported in The New York Times, the Justice Department division responsible for checking for fraud in the bankruptcy system has found a widespread pattern of deception by banks foreclosing homes, and she concluded: “So an authoritative source with access to a lot of data has identified industry practices as not only pernicious but also pervasive. Which makes it all the more mystifying that regulators seem eager to strike a cheap and easy settlement with the banks.”

Not really surprising given both the enormous hold of Wall Street money over the two major political parties and the revolving door through which executives travel between firms like Goldman Sachs and the top positions in the U.S. Treasury Department and elsewhere in the government. The financial crisis occurred only because Republicans and Democrats passed the laws that Wall Street lobbyists wrote ending reasonable banking industry regulation installed in the 1930s in response to the Depression. And when the greed they enabled threatened the foundations of our economy, under Bill Clinton, George W. Bush and Barack Obama, it was the bankers who were assisted into lifeboats that had no room for ordinary people.

Not surprising then to find all of the power players in on the latest deals: the Obama administration that had bailed out the banks but not troubled homeowners; the regulators and Fed officials who all looked the other way when the housing bubble was inflated; and the state attorneys general who backed away from going after the perpetrators of robo-signed mortgages and other scams used to foreclose homes.

But now Schneiderman has a chance to derail the deals, given that he is supported by the state’s tough 1921 Martin Act, which one of his predecessors as New York state attorney general, Eliot Spitzer, had used to good advantage in exposing the financial behemoths that are so heavily based in New York. The Wall Street Journal describes the Martin Act as “one of the most potent prosecutorial tools against financial fraud” because, as opposed to federal law, it doesn’t carry the more difficult standard of proving intent to defraud.

Last week, it was revealed that Schneiderman’s office has demanded an accounting from Bank of America, Morgan Stanley and Goldman Sachs as to the details of their past practice of securitizing those mortgage-based packages that proved so toxic. Maybe he will fail against such powerful forces, as did Spitzer and later Andrew Cuomo, but it is a test worth watching, since no one else, from the White House on down, seems to be concerned with holding the bailed-out banks accountable for the massive pain and suffering they inflicted on the public.
AP / Frank Franklin II

A Progressive Journal of News and Opinion. Editor, Robert Scheer. Publisher, Zuade Kaufman. Copyright © 2011 Truthdig, L.L.C. All rights reserved. Web site development by Hop Studios

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