Galbraith: Government Doesn't Have to Borrow to Spend

James K. Galbraith in Government Doesn’t Have to Borrow to Spend quite clearly and without economic jargon explains why the debt ceiling debate is puppet theater:

The debt ceiling was enacted in 1917 for one purpose: to fool the rubes back home. Just as Congress started running up debts to pay for the war, they voted in the ceiling to pretend otherwise. And that is why whenever reached, it must be raised.


In the modern world, when the Treasury writes you a check, your bank credits your account. That's how money creation works. The Treasury then issues bonds to absorb that money. Banks like this because bonds pay more interest than reserves. But there is nothing economically necessary about the bonds. This is obvious since the Federal Reserve buys back many of them, leaving the public with the cash it would have had in the first place.


Under present law, Jack Lew could even pay off public debt held by the Federal Reserve by issuing a high-value, legal-tender coin – so long as the coin happened to be platinum. A coin is not debt, so that simple exchange would retire the Fed's debt holdings and lower the total public debt below any given ceiling.

James Galbraith admits that this is a gimmick ... but then, so is the debt ceiling, so it would be one gimmick fixing the fact that one faction of one political party is holding the faith and credit of the US government hostage over what was originally and has always been since a gimmick.

Consol Bonds Can Be Used Even By Those Still Confused About This

Now, the most charitable explanation for the actions of the current administration is that they, along with a large number of House members, are among the "rubes back home" that the debt ceiling was created to confuse. That is the most plausible explanation for not just taking the debt ceiling off the table right now that does not involve 11th dimensional chess in order to pass Republican inspired attacks on the social safety net on the excuse that they were needed to get the debt ceiling raised.

However, as I described in Economic Populist: Consol Bonds are the Debt Ceiling Walk Off Home Run, a specific type of "Consol bond", with a face value of $0 and a perpetual interest payment, can be issued to avoid government default.

A different version of this is something that Paul Krugman offered in 7 January 2013, called "Moral Obligation Coupons". And John Carney at CNBC explained why Moral Obligation Coupons would not work, which is the specific language of the debt ceiling bill:

(c) For purposes of this section, the face amount, for any month, of any obligation issued on a discount basis that is not redeemable before maturity at the option of the holder of the obligation is an amount equal to the sum of --
  • (1) the original issue price of the obligation, plus
  • (2) the portion of the discount on the obligation attributable to periods before the beginning of such month (as determined under the principles of section 1272(a) of the Internal Revenue Code of 1986 without regard to any exceptions contained in paragraph (2) of such section).

So Paul Krugman's Moral Obligation Coupons do not work. In his system, the principle is not guaranteed. However, they would have been sold at a discount, and they would not be redeemable before maturity, so the "issue price" counts, which is basically the sale price to the general public.

But while Paul Krugman's Moral Obligation Coupons would not work, Zero Face Value Consol Bonds would work.

The difference is simple: Moral Obligation Coupons would sell at a discount. Consols would sell at a premium. And so section [c] only applies Moral Obligation Coupons, it does not apply to $0 Face Value Consol Bonds. They cannot be redeemed on demand, nor are they sold on a discount basis, so section [a] does not apply. Which leaves section [b]:

(b) 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 $14,294,000,000,000,outstanding at one time, subject to changes periodically made in that amount as provided by law through the congressional budget process described in Rule XLIX [1] of the Rules of the House of Representatives or as provided by section 3101A or otherwise.

The Face Amount is $0. Add up as many $0 Face Values as you wish, and it does not add to the Face Value of debt.

The Moral Obligation to Either Use Zero Face Value Consol Bonds or Jumbo Coins

Should the White House do one or the other of these? What would it mean in terms of political strategy.

That's not the question I'm going to ask. Rather, the President has sworn an oath:

I do solemnly swear (or affirm) that I will faithfully execute the Office of President of the United States, and will to the best of my Ability, preserve, protect and defend the Constitution of the United States.

And the 14th Amendment says:

Section 4. The validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned. But neither the United States nor any State shall assume or pay any debt or obligation incurred in aid of insurrection or rebellion against the United States, or any claim for the loss or emancipation of any slave; but all such debts, obligations and claims shall be held illegal and void.

This has been presented by some as the basis for just ignoring the debt ceiling legislation. But on the other hand, the debt ceiling legislation is valid law, even though passed to con the rubes back home, and so as the Executive of enacted federal Law. So if President Obama can protect and defend both the 14th Amendment and the right of a previous Congress to enact stupid puppet theater laws, that is what he should do.

And Zero Face Value Consol Bonds and/or Jumbo Coins would allow the Constitutional Crisis to be avoided.

So one or the other ought to be done.

How to do it to exact the greatest political advantage for the Democrats, I leave that to the political horse race people. But the political horse race strategy should be done within the bounds of the President respecting his oath of office.

Update: What is a Consol Bond?

This is from the previous diary:

Consol bonds were issued with a face value and coupon interest rate, but without a maturity date. This would be a "bug" for savings bonds, but for bonds held by financial institutions, this is actually a feature, since the rolling over of maturing bonds complicates things for bond-holding financial institutions.


Its only tradition that places a face value on Consols at all. Instead of a face value and an interest rate, they could simply specify an annual yield, "$1,000, paid in $500 installments each March 1 and October 1", and you have a Consol Bond with an annual interest yield of $1,000. The Treasury Auction would decide the amount that is deposited in the Treasury Reserve Account ... just as the auction decides the same thing today with Ten Year Treasury Bonds.





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Important distinction between Moral Obligation Coupons...

priceman's picture

and Zero Face Value Consol Bonds. Thanks, BruceMcF. That or jumbo coins is the answer as JKG says clearly as he often does.

Whether the elites are interested in answers is another story, but given that each party owns a different chamber, the political fallout from a political default and global panic/financial crash will shake up the legislative branch for sure. Incumbents will most likely be on the outs regardless of party though Republicans will be blamed the most probably. It will hit Main Street after Wall St takes the hit.

As you and JKB laid out, it really doesn't have to be this way, but the question will be is if we have a say, at all. It's time to end the debt ceiling gimmick once and for all, espeicially with a government that can't govern.

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