Thursday, July 28, 2011

New option if the debt ceiling isn’t raised—Overdraft protection

Imagine that Democrats and Republicans cannot reach agreement on raising the debt ceiling, what then?  What options does Obama have other than invoking the 14th Amendment which I’ve discussed before—See here.

Here is an option I haven’t discussed before.

The Treasury could just continue to write and issue government checks anyway, even if there is no money in the U.S. Government’s account at the Fed to cover the checks with confidence that the Fed would very likely NOT bounce the checks. 

What?   John Carney at CNBC makes the argument:

When the government writes a check, it goes to whomever is getting paid. The payee then deposits it in its own bank account. The bank then submits it to the Federal Reserve for clearing.

Think about it. The check comes into the Federal Reserve. It looks at the U.S. government balance and discovers that we’re at zero. What does the Federal Reserve do?

Carney says he doubts the Federal Reserve would bounce the U.S. government check since “rejecting a check written by the government of the United States would probably violate the dual mandate of the Fed to pursue maximum employment and price stability. A U.S. government that bounced checks would just introduce so much chaos the Fed would likely be obligated by its core mandates to credit the check.”

Carney argues that the Fed would not be violating the debt ceiling law because the law would not apply.

The debt ceiling applies to the face amount of obligations issued under Chapter 31 of Title 31 of the U.S. Code—basically, Treasury notes and bills and the other standard kinds of government debt—and the “face amount of obligations whose principal and interest are guaranteed by the United States Government.” But overdrafts on the Federal Reserve wouldn’t be Treasurys and they aren’t explicitly guaranteed by the U.S. government.

They’re more like unilateral gifts from the Fed.

And guess what? The Treasury is allowed to accept gifts that “reduce the public debt.” Since these overdraft gifts from the Fed would allow the government to spend without incurring additional debt, it seems very plausible to argue that this kind of extension of U.S. credit would be permitted under the debt ceiling.

So, we have a new option.  The Treasury just keeps on writing checks even when there isn’t enough money in the U.S. Government account to cover the checks.  Treasury just overdraws the account but secure in the knowledge that it has the ultimate overdraft protector, the Fed.

Carney admits that a lot of people will say what he proposes is illegal, or at least questionable.  But, hey, so is invoking the 14th Amendment.

Interesting idea. 

Read Carney’s complete article here:

No comments: