“People in the political arena were even talking about a potential default,” said Joydeep Mukherji, senior director at S&P. “That a country even has such voices, albeit a minority, is something notable,” he added. “This kind of rhetoric is not common amongst AAA sovereigns.”After Standard & Poor’s lowered its sovereign credit rating for the US from AAA to AA+ it issued an official explanation for the downgrade. Joydeep Mukherji was a little more direct and to the point. When elected officials responsible for making fiscal policy speak cavalierly about the possibility of a debt default, expect a downgrade. The ratings agency would take the words of Michele Bachmann, Eric Cantor, Mitch McConnell and others seriously. There would be consequences for statements such as this one:
(The Nation, August 12, 2011)
“I think some of our members may have thought the default issue was a hostage you might take a chance at shooting. Most of us didn’t think that. What we did learn is this — it’s a hostage that’s worth ransoming.”
(Mitch McConnell, Washington Post, August 3, 2011)
What the Republicans are doing with the current statutory debt limit is intolerable. No American owes a darn thing to Republicans in return for their second approval of funds they already appropriated. That’s all the debt ceiling is. Democrats need to stay focused on the Republicans’ unethical misuse of their majority in the House to threaten the nation with economic disruption.
Right now, distractions like the trillion dollar platinum coin aren’t productive. It’s a sign of the time that such an idea could be taken seriously. In this diary, you’ll learn why the strategy for the Treasury to mint a platinum coin to be held at the Federal Reserve Bank won’t work so that you can concentrate on fighting against the Republicans more effectively.
To help you understand the platinum coin strategy flaws, you have to understand how the Fed operates in its partnership with the US Treasury today. Using a legally minted coin wouldn’t function as a stand-in for the Treasury bonds that the Fed buys today when it conducts monetary policy.
Let’s walk through it step by step. Today the Treasury issues debt in the form of bills, bonds, notes and other securities. The buyers of these securities expect to receive interest and 100% of the principal upon maturity. They also expect liquidity: the ability to sell at any time on a secondary market where there is demand. If the holder keeps the Treasuries until maturity they will also retain their value so that one dollar will always equal one dollar. US Treasuries are guaranteed by the full faith and credit of the United States, per Article 4 Section 1 of the Constitution. As an example of a simplified transaction between the Treasury and the Fed, let’s say that the Treasury decides to issue $1,000,000 worth of notes on Jan 15 2013 and the Fed purchases them for its Reserve account.
What if a newly minted platinum coin, with a symbolic value of $1 trillion was substituted for the US Treasury Notes in the transaction described above? On Jan 15 2013 the Fed would own the coin and the Treasury would have $1 Trillion to pay government bills. The holder cannot make the same assumptions about the coin regarding its liquidity, retention of value, and guarantee. When the Fed decides to sell Treasuries from its account, there is always worldwide demand for them. Would anyone buy a coin with 2 oz of platinum content for $1 trillion? Bills, bonds, and notes are issued in smaller amounts and can be sold in smaller quantities to multiple investors. How could that be done with a coin?
The trillion dollar coin would fund government operations for about 100 days. Assume that the Fed agrees to hold the coin for that duration. At 100 days the coin is swapped back and forth between the participants in a rollover to allow another $1 trillion in spending. Examine carefully, the positions of the two participants when Treasury notes would redeem at maturity and that portion of the Public Debt would be retired. How could the same effect be achieved with the platinum coin? In the transaction ledger between the two participants, one side always offsets the other to zero, no credit or debit. Each participant’s internal ledger also balances to zero. The debt is issued, it reaches maturity and it is retired. The money that a debt holder lends to the Treasury is repaid in full upon maturity. The vertical and horizontal balance confirms that money creation was not a net result of the transaction. Any imbalance on the ledger is an indication of a problem without any other offset to counteract it.
To push farther in support of the platinum coin, assume that it could be melted and its destruction would debit the ledger so that there’s offset. There’s still something intrinsically different between issuing securitized debt and minting a coin. Treasuries are issued and redeemed continuously. Because of varying maturities, some short, some long, the cumulative amount of securities issued and redeemed in a fiscal year is more than the entire public debt. Securitized debt plays an important role in the circulation of money through the economy. A multitude of investors, individual and institutional, buy, sell, and redeem Treasuries at auction and in the secondary market. A single trillion dollar platinum coin would have no such liquidity. In fact, it would have a negative effect on the Federal Reserve's collateral that backs the buck.
Take a bill from your wallet and examine it. Notice the Federal Reserve Note and legal tender markings which indicate that collateral held at the Federal Reserve backs Federal Reserve Notes. The collateral assets are mostly Treasuries and US government agency securities. It’s unknown how the Federal Reserve would valuate a platinum coin that is supposedly worth $1 trillion with no liquidity. In other words, the coin would only be worth the price a buyer is willing to pay for it. With shaky collateral backing the buck, the buck itself would become shaky.
There are peripheral risks in substituting a platinum coin versus the traditional issuance of debt. Would S&P and other ratings agencies downgrade US sovereign credit again? Would the bond markets sell off in anticipation of a full interest and principal default? What effect would that have on interest rates? Is it possible to have two currencies, one backed by traditional collateral and a second backed by platinum coin holdings?
In the end, the platinum coin solution is a drastic and risky proposal that avoids meeting the real problems head on.
1) There is no spending problem and there is no deficit problem in the US today. There’s a political problem that needs to be addressed. If the US is going to resort to drastic solutions, it would be more appropriate to expel the Republican caucus from Congress or for the President to adjourn it.
2) The cost of servicing the debt is lower today that it was in 1998 even though the debt has tripled. Interest rates are expected to remain low through 2015. There are ways to manage the long-term risk associated with debt service so that it remains affordable.
3) The US monetary system is integrated with the economy and financial institutions. Like Social Security, it can perpetuate itself forever, with no chance of bankruptcy, unless interests with an agenda interfere with it to make it deliberately fail. The Republicans engineering a default of US debt would be unnecessary and unforgivable because it wouldn’t resolve what they pretend is objectionable to them. Instead, it would introduce a whole new menu of problems to add to present concerns.
Fight for a check and balance against the dangerous power that Congress has today if it refuses to approve a rise in the debt ceiling. Attack the real problem. The Republicans are using the power they have to force their agenda on the American people contrary to the 2012 election results. The majority Republicans have in the House doesn’t entitle them to crash the entire US economy because they can’t have it all their way.