Note: I updated the title to read "The U.S. should absolutely default on ***paying the interest portion*** of its debt."I wanted to make it clear that I am not in favor of paying interest on our own money, the money that we issue freely, especially since it goes to mostly wealthy people. This is nothing more than a fiscal transfer and it would be better served elsewhere as in infrastructure, education, health care, alternative energy or helping needy people.
As far as the outstanding $16.7 trillion, those are dollars, held in securities accounts at the Fed. Nothing happens to that and I couldn't care less if they were held in the form of securities with zero maturity (reserves) or securities with some maturity. Anyway, the Fed handles all that so it has nothing to do with what I am talking about.
The U.S. should default on its debt. I'm not kidding. This is something I think we should do.
Why is the Federal Government--the monopoly issuer of the dollar--paying interest to mostly wealthy people and financial institutions to borrow its own money?
Let's face it, paying interest is nothing more than a fiscal transfer to wealthy folks. They don't need the money. Why do we prioritize such a thing when at the same time we think nothing of cutting fiscal transfers to needy people; cut food stamps, income supports, unemployment insurance, Medicare, Medicaid, proposed cuts to SS, etc?
If the U.S. were to default on its debt the Federal Government could easily offset any economic turmoil that might ensue by ensuring adequate levels of demand (large investments in infrastructure, health care, education, science and research, alternative energy, for example) and offer a job guarantee to anyone who wanted to work.
I'm sure if you asked people whether they wanted a few percentage points of interest on their money or instead, have a booming economy, jobs, economic opportunity, general prosperity, etc, they would choose the latter.
In addition, defaulting on the debt would put an end once and for all to this nonsense about us being dependent on creditors, China, Japan, foreigners,etc.
It would also kill off all the Debt Doomsday people.
I say, default on the debt.
27 comments:
Mike - The markets seem to be pricing in extremely remote odds that the US government will default on its debt. If default were a real possibility, the 10 year Treasury would not be yielding 2.6% and 5 year US sovereign credit default insurance would not be as low as 0.35% but more like 35.00%.
It's time we end welfare to the rich and the charade of borrowing our own money.
If I ran for president that would be part of my platform.
Not pay the interest, I mean.
I am with you 110% for ending corporate welfare. Moreover, you know me as a low tax kind of guy, but I would favor raising taxes on crony capitalists and profits earned by the military industrial complex.
David Hume, who was a stern critic of the Great Britain's mounting public debt in the 18th century - in an era prior to the firm establishment of fiat money, when states were required to obtain specie and bullion to finance their wars and much of their trade abroad - predicted that the debt would eventually be eliminated via voluntary default.
So great dupes are the generality of mankind, that, notwithstanding such a violent shock to public credit, as a voluntary bankruptcy in ENGLAND would occasion, it would not probably be long ere credit would again revive in as flourishing a condition as before. The present king of FRANCE, during the late war, borrowed money at lower interest than ever his grandfather did; and as low as the BRITISH parliament, comparing the natural rate of interest in both kingdoms. And though men are commonly more governed by what they have seen, than by what they foresee, with whatever certainty; yet promises, protestations, fair appearances, with the allurements of present interest, have such powerful influence as few are able to resist. Mankind are, in all ages, caught by the same baits: The same tricks, played over and over again, still trepan them. The heights of popularity and patriotism are still the beaten road to power and tyranny; flattery to treachery; standing armies to arbitrary government; and the glory of God to the temporal interest of the clergy. The fear of an everlasting destruction of credit, allowing it to be an evil, is a needless bugbear. A prudent man, in reality, would rather lend to the public immediately after we had taken a spunge to our debts, than at present; as much as an opulent knave, even though one could not force him to pay, is a preferable debtor to an honest bankrupt: For the former, in order to carry on business, may find it his interest to discharge his debts, where they are not exorbitant: The latter has it not in his power. The reasoning of TACITUS, as it is eternally true, is very applicable to our present case. Sed vulgus ad magnitudinem beneficiorum aderat: Stultissimus quisque pecuniis mercabatur: Apud sapientes cassa habebantur, quæ neque dari neque accipi, salva republica, poterant. The public is a debtor, whom no man can oblige to pay. The only check which the creditors have upon her, is the interest of preserving credit; an interest, which may easily be overbalanced by a great debt, and by a difficult and extraordinary emergence, even supposing that credit irrecoverable. Not to mention, that a present necessity often forces states into measures, which are, strictly speaking, against their interest.
These two events, supposed above, are calamitous, but not the most calamitous. Thousands are thereby sacrificed to the safety of millions. But we are not without danger, that the contrary event may take place, and that millions may be sacrificed for ever to the temporary safety of thousands. Our popular government, perhaps, will render it difficult or dangerous for a minister to venture on so desperate an expedient, as that of a voluntary bankruptcy. And though the house of Lords be altogether composed of proprietors of land, and the house of Commons chiefly; and consequently neither of them can be supposed to have great property in the funds. Yet the connections of the members may be so great with the proprietors, as to render them more tenacious of public faith, than prudence, policy, or even justice, strictly speaking, requires. And perhaps too, our foreign enemies may be so politic as to discover, that our safety lies in despair, and may not, therefore, show the danger, open and barefaced, till it be inevitable. The balance of power in EUROPE, our grandfathers, our fathers, and we, have all deemed too unequal to be preserved without our attention and assistance. But our children, weary of the struggle, and fettered with incumbrances, may sit down secure, and see their neighbours oppressed and conquered; till, at last, they themselves and their creditors lie both at the mercy of the conqueror. And this may properly enough be denominated the violent death of our public credit.
Hume also had worries about the long term impact of the public funds - i.e. public debt and government securities - on the stability and unity of society. He believed that the ultimate tendency of this trend would be to bleed both the laboring classes and their gentry landlords through taxes, and to put the power and wealth of the state in the hands of an emerging crony and cosmopolitan financial elite in London, thus leaving the public vulnerable to capital flight and tyranny. Again, Hume was writing in a time when there was little fiat money to speak of, and so the state was dependent on taxes to fund its debt. But still there are some prophetic elements in his concerns:
In this unnatural state of society, the only persons, who possess any revenue beyond the immediate effects of their industry, are the stock-holders, who draw almost all the rent of the land and houses, besides the produce of all the customs and excises. These are men, who have no connexions with the state, who can enjoy their revenue in any part of the globe in which they chuse to reside, who will naturally bury themselves in the capital or in great cities, and who will sink into the lethargy of a stupid and pampered luxury, without spirit, ambition, or enjoyment. Adieu to all ideas of nobility, gentry, and family. The stocks can be transferred in an instant, and being in such a fluctuating state, will seldom be transmitted during three generations from father to son. Or were they to remain ever so long in one family, they convey no hereditary authority or credit to the possessor; and by this means, the several ranks of men, which form a kind of independent magistracy in a state, instituted by the hand of nature, are entirely lost; and every man in authority derives his influence from the commission alone of the sovereign. No expedient remains for preventing or suppressing insurrections, but mercenary armies: No expedient at all remains for resisting tyranny: Elections are swayed by bribery and corruption alone: And the middle power between king and people being totally removed, a grievous despotism must infallibly prevail. The landholders, despised for their poverty, and hated for their oppressions, will be utterly unable to make any opposition to it.
Tax away gains from economic rent. That is, all profit. In a perfectly competitive economy, there is no room for profit (surplus above what all factors receive through the working of the competitive market) since all factors are paid their due in a competitive market and there is no surplus. Profit arises from artificially induced market imperfections that result in a surplus, which is indication of economic distortion created artificially.
OK, that's a neoclassical analysis, but as long as neoclassical economics prevails that should be the argument for taxing away all profit to restore perfect competition.
Speaking of interest, it appears Scott Sumner is getting closer to agreeing with MMT: http://www.themoneyillusion.com/?p=23933
While I don't think I would support the idea of default, since in the present environment the government is not prepared to pick up the slack in demand and so the effects will be calamitous. I do think Mike is quite correct on the long-term vision.
First of all, even if there is a legitimate interest in the government providing risk-free savings vehicles of various maturities for large institutional savers, doing so should be a central bank function, not a Treasury funtion. There is no reason at all that this function should be entangled with our fiscal system. The Treasury shouldn't be in a position in which it is forced to issue interest-bearing debt-instruments to get zero-interest dollars for ordinary spending. The Fed can offer its member banks various term-deposit options for its surpluses, looked over by Congress. (And if these surpluses grow too large, they should be taxed away.) The interest payments on those accounts would represent the Fed's contribution to money creation, which may or may not be offset during a given period by interest payments to the Fed.
The Treasury, on the other hand, should just have an account at the Fed - or even an account maintained by itself - in which it can run a permanent overdraft. When it spends more than it taxes, the overdraft increases. That's it. The size of that overdraft represents the net money injection from the Treasury from the time of inception.
If people are worried about inflation, set up some kind of monetary control board, answering to Congress, that monitors both the monetary impact of the Fed and the Treasury, offers routine monetary policy advice to Congress. But people have to understand that the normal situation, from the point of inception, would be for the main Treasury account and the main Fed to have a permanent overdraft.
Tyler,
Maybe he and Delong can salvage their reputations before all of this is widely revealed...
rsp,
"Thousands are thereby sacrificed to the safety of millions. But we are not without danger, that the contrary event may take place, and that millions may be sacrificed for ever to the temporary safety of thousands."
Dan I dont think we even have to make this choice today as you point out we are not under the metals at this time... so we can get everybody out whole no problem if that is what policy we come up with.
The key thing is to try to get the most people as possible to understand that we "cannot run out of money"...
If everyone understood this, the public outcry would be for MUCH lower tax rates immediately... and then, a bunch of people would even drop out of the workforce as imo, we end up working a lot to "pay taxes" within a household...
If a large plurality of US citizens make it over to the realization that we cannot "run out of money", it is not going to result in some minor changes to the demand side of our economy that can be tweaked thru periodic tax adjustments to "manage aggregate demand".... imo BOTH supply AND demand will be greatly affected (for the better for our country as a whole...)
rsp,
Mike,
What do you think would happen to the 10yr T yield if the US defaulted?
Also, you are a FX trader.
What would happen to the DX if the US defaulted on its debt?
Milton Friedman and Warren Mosler kind of agree with Mike. The latter two have argued that the only liability governments should issue should be cash. And government debt that pays no interest is effectively cash.
I would agree ... if necessary to prioritize because of the bogus "debt ceiling" put bondholders at the back of the line .... pay social security, food stamps, gov't workers, retirees, etc first.
I'd say the market isn't pricing in much default risk because rational people know that even if there is technical default by not paying on time, that they will get paid eventually once the grandstanding is over.
"What would happen to the DX if the US defaulted on its debt?"
US will not default on its debt. No way that US, which can issue debt in its own non-covertible fiat currency, which it can print in unlimited supply, can default on that debt. However, too much money printing can be inflationary which some would argue is default by another name.
"What would happen to the DX if the US defaulted on its debt?"
Failure of Congress and the White House to make a deal on the debt ceiling DOES NOT MEAN DEFAULT. More likely it means the economy relapses back into recession. Deflationary consequences logically should bid the $ Index higher.... unless perception trumps reality and traders reckon the Fed will print money to offset the deflation.
Nominal US GDP is growing at an annual rate of about 2.5%. US federal spending currently weighs in at roughly 23% of GDP, in contrast to the historical average of 19.6% from 1946 to 2008. If the debt ceiling is not raised, the government will have no choice but to go COLD TURKEY to a balanced budget by cutting 18 cents out of every dollar it currently spends. Slashing 18% of the federal budget would bring US federal spending down to roughly 19% of GDP and by extension cut the annual GDP growth rate from a positive +2.5% to a negative -1.5% in a New York minute.
The only way this scenario could avoid triggering another recession would be if private sector credit expanded enough to fill the vacuum and make up the difference. The question is whether the private sector in aggregate has de-leveraged enough since 2008 to make private sector businesses and households feel comfortable enough to go out on a borrowing spree.
Failure of Congress and the White House to make a deal on the debt ceiling DOES NOT MEAN DEFAULT
It does eventually, although they can delay it for a while. Eventually the US government will either fail to make some interest payments on its securities or fail to make some payments on binding contracts into which it has entered, or both. That is defaulting.
"Eventually the US government will either fail to make some interest payments on its securities or fail to make some payments on binding contracts into which it has entered, or both."
Dan - I think I disagree that the government would sooner or later fail to make interest payments on some of its debt. If there was a real risk of that happening it would already be getting priced into the market and the 10 year Treasury yield would be much higher than current level at 2.65%, On the other hand, the government is already failing to make payroll payments to furloughed federal employees and is having to delay payments to many contractors.
"The only way this scenario could avoid triggering another recession would be if private sector credit expanded enough to fill the vacuum and make up the difference."
They tried this twice in recent history (1997-2001, 2004-2008).
4-5 years of private sector deficit seems to be the most that it can take.
Ed, it seems to me that default doesn't just mean failing to make interest or premium payments on securities. If the government has any binding contracts on which it fails to make required payments then it has defaulted on its obligations. The markets, so to speak, might only care in the short run about whether the government's high-rolling creditors get their interest payments, but I think the financial reputation of the government depends on more than that.
"Failure of Congress and the White House to make a deal on the debt ceiling DOES NOT MEAN DEFAULT. "
I didn't mean to infer that in any way.
Perhaps you missed the title of the post from Mike. Please see below.
"The U.S. should absolutely default on paying the interest portion of its debt"
Dan - I see your point about default not strictly being limited to failing to make interest and principal payments on time but also including other binding contracts and I agree with you. In that same vein, a 5-year Treasury coupon at 1.375% in effect misses all of its interest payments and then some if inflation is at 2%. Is this not also default by another name?
Ed -- I have never understood why so many people consider inflation to be some kind of default. A default is the failure, for whatever reason, for one party to live up to its contractual obligations to another in a timely manner. There is no inflation adjustment guarantee with treasury securities, except TIPS, sort of. There are no contracts guaranteeing that there will be no inflation and prices will be unchanged over time. In fact, a little inflation, 2-4% may be necessary for a growing population in an growing economy.
"In fact, a little inflation, 2-4% may be necessary for a growing population in an growing economy."
Maybe, rulers should have some flexibility built into them? You know, 12 inches today, 15 inches tomorrow... 9 inches the day after tomorrow.
All seriousness aside, it makes perfect sense to me that the unit of account or numeraire if you will, should be able to expand and contract with population growth or lack of it as is the case these days in some parts of the world. The supply of money in whatever form it takes should closely match the demand for it.... at least if relative price stability is an economic policy objective.
However, if you own a portfolio of 100 investment grade corporate bonds and 2 of them file for Chapter 11, doesn't that produce a similar outcome profit & loss wise as owning a 5-year Treasury note bearing a 1.375% coupon and seeing 2% inflation erode the return?
"inflation" is based on the erroneous quantity theory of money, enunciated by David Hume. Given a fixed supply of goods and a fixed supply of money, prices will also be fixed to the relationship of goods and money to each other. Change the relationship by increasing the supply of money and prices will rise for the same amount (fixed) amount of goods.
This is a stylized view that is purely conceptual in that neither goods nor money are fixed but variable. It could be that the amount of goods might be fixed in an economy operating at full capacity, but that, too, is conceptual, since modern economies are highly fluid and flexible, due to changing desire, increasing productivity through innovation, and substitution.
The government attempts to estimate changes in price level in order to gauge economic policy. These are somewhat crude measures even in highly developed economies that collect and process data almost in real time. Looking at the "inflation rate" as anything more than the indicator designed for a specific purpose in guidance is pushing the tolerance further than it can bear. Comparing inflation rate historically and geographically as if these figures were comparable is sillier still.
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