July 23, 2012
Treasury Secretary Timothy Geithner and scores of Treasury officials resorted to a number of financial tricks last year to prevent the government from bumping up against the government’s legal borrowing limit known as the debt ceiling. The delay last year in raising that limit while President Obama and congressional Republicans fought over spending and tax issues boosted the Treasury’s borrowing costs by about $1.3 billion in fiscal 2011 and could eventually add more to the government’s costs, according to a study issued Monday by the Government Accountability Office.
“Delays in raising the debt limit can create uncertainty in the Treasury market and lead to higher Treasury borrowing costs,” according to the GAO, a non partisan government watchdog organization. “However, this does not account for the multi-year effects on increased costs for Treasury securities that will remain outstanding after fiscal year 2011.”
Moreover, the report found that Treasury officials were so obsessed with dealing with the mushrooming political and financial crisis before a deal was finally struck over the last weekend in July that it “diverted Treasury’s staff away from other important cash and debt management responsibilities.” Some of the delaying tactics included suspending investments of the Civil Service Retirement and Disability Fund and the Postal Service Retiree Health benefits Funds. As it turned out, these and other actions carried hidden costs that are just now being revealed.
THE THREAT OF DEFAULT
It took the threat of the first borrowing default in U.S. history and economic collapse before Obama and congressional Republican leaders concluded the long, contentious negotiation and agreed to raise the nation’s then $14.3 trillion debt ceiling by $2.4 trillion -- or just enough to get the government past the November election.
Obama hoped that by reaching agreement last summer, the government would not have to worry about the debt ceiling again until a new Congress took office early next year. However, the country is already bushing up against the debt ceiling approved last year. Outstanding public debt was slightly more than $15.85 trillion last month, putting it close to the $16.39 trillion maximum, according to the Treasury Department.
As a result, along with the fiscal cliff of expiring tax breaks and automatic tax cuts, the country will again be thrown into heated negotiations over raising the debt limit close to the start of next year.
“The journey through this fiscal maze next year will make last summer’s debt-limit debate look like child’s play,” Peter Orszag, former budget director for the Obama White House, warned in an editorial for Bloomberg News last February.
The final agreement, called the Budget Control Act, raised the debt ceiling by granting the Treasury additional borrowing authority in installments, beginning with an immediate $900 billion and then $1.2 trillion throughout 2012. Congress could vote its disapproval of any one of the installments, giving lawmakers political cover, but the president would be able to veto the disapproval and borrow the full funds anyway.
The new legislation mandated more than $1 trillion in immediate funding cuts, followed by the creation of a special bipartisan Congressional super committee instructed to come up with an additional $1.2 trillion of deficit savings over the coming decade. But the super committee subsequently failed to reach agreement on a package of spending reduction and tax increases, and now those deep savings in defense and domestic programs are scheduled to automatically begin to take effect next Jan. 2, unless Congress intervenes.
The GAO report stated that the 2011 stand-off created additional multiyear costs that were not included in its calculation, even though it has become cheaper for the federal government to borrow, with interest rates plunging toward lows as investors fleeing Europe are seeking a safe haven. Yields on 10-year Treasury bonds fell to a record low 1.41 percent at the start of trading on Monday, more than half of what they were at this point last year.
THE POLITICS OF DEBT
Raising the debt ceiling historically has been a politically contentious issue, with the party in power usually having to assume the political burden of passing new legislation to avert a default on the government’s ever growing national debt.
In November 1995, for example, then-Treasury Secretary Robert Rubin set in motion a series of extraordinary financial maneuvers to keep the government afloat after a bitter budget dispute between Democratic President Bill Clinton and a Republican-controlled Congress threatened to force the United States to default on its bond obligations for the first time in history.
Rubin knew that without congressional consent to raise the legal debt ceiling, he had only a matter of weeks before the Treasury exhausted its borrowing authority and would have to renege on interest and principal payments to its creditors – something that the secretary described as “unthinkable” and “akin to nuclear war.”
Through a series of arcane financial maneuvers – including postponing or downsizing debt auctions and speeding up the redemption of some government bonds – Rubin was able to forestall a default for an additional four and a half months. Congress finally relented and voted to raise the debt ceiling on March 19, 1996.
Last year, the Treasury used a number of the same or similar maneuvers to keep the Treasury from breaching the legal limit on borrowing. Those included:
- Redeeming existing holdings and suspending new investments in the Civil Service Retirement and Disability Fund, the massive federal pension and disabilities program. The Treasury Secretary may postpone investing funds in government securities for the pension fund if such action threatens to breach the debt ceiling, with the understanding the Treasury would restore the principal and interest to the pension fund once the debt crisis was over.
- Temporarily preventing the Thrift Savings Fund – a government retirement savings plan – from investing in the Government Securities Investment Fund (G-Fund). Suspending sales of State and Local Government Series (SLGS) Treasury securities. The program was established in 1972 to prevent state and local governments from earning arbitrage profits by investing bond proceeds in higher yielding investments.
- Suspending reinvestment of maturing Treasury securities in the Exchange Stabilization Fund (ESF). The fund is used by the Treasury to stabilize the exchange rates and to deal in gold, foreign exchange and other instruments of credit and securities the secretary considers necessary. Funds can also be used to invest in government obligations. The secretary, if need be, can redeem exchange stabilization fund obligations in order to reduce the debt.
GAO reported in February 2011 that “delays in raising the debt limit create debt and cash challenges for Treasury, and these challenges have been exacerbated in recent years by a large growth in debt.”