econscius

The USA Has Defaulted Before

In Debt Ceiling on August 1, 2011 at 12:07 am

JimmyCarterPortrait.jpg

The Debt Ceiling controversy has taught many of us new things about the Public Debt and Econscius is no exception.  I had heard many times the US has never defaulted.  “No default” has been repeated enough to be accepted as fact.  For example, in January, the former chairman of the president’s Council of Economic Advisers, Austan Goolsbee, said “If we hit the debt ceiling, that’s essentially defaulting on our obligations, which is totally unprecedented in American history” [1] and Treasury Secretary Geithner said, “no responsible leader would say the United States of America, for the first time in its history, should not pay its bills, meet its obligations.” [2]

It turns out the US has defaulted three times, most recently in 1979.

In 1790, the young United States defaulted on its external and domestic debt obligations. [1]  

In 1933, President Roosevelt and his Congress repudiated the specific clause in debt contracts that investors may request their payment be made in gold. [3]

In April 1979, there was a default during the Carter Administration after a dispute over raising the Debt Ceiling with, ironically, a Democratic Congress. [4] [5]  Brady Dennis in the Washington Post wrote:

“There was one short-lived incident in the spring of 1979 that offers a glimpse of some of the problems and costs that might arise if the stalemate on Capitol Hill continues.  Then, as now, Congress had been playing a game of chicken with the debt limit, raising it to $830 billion – compared with today’s $14.3 trillion – only after Treasury Secretary W. Michael Blumenthal warned that the country was hours away from the first default in its history.”

“That last-minute approval, combined with a flood of investor demand for Treasury bills and a series of technical glitches in processing the backlog of paperwork, resulted in thousands of late payments to holders of Treasury bills that were maturing that April and May.” [6]

 Donald Marron of Forbes described:

“Investors in T-bills maturing April 26, 1979 were told that the U.S. Treasury could not make its payments on maturing securities to individual investors. The Treasury was also late in redeeming T-bills which become due on May 3 and May 10, 1979. The Treasury blamed this delay on an unprecedented volume of participation by small investors, on failure of Congress to act in a timely fashion on the debt ceiling legislation in April, and on an unanticipated failure of word processing equipment used to prepare check schedules.” [7]

This may sound like a technical default, which it was, but so is the potential default looming today. 

There are some lessons here: (1) a last-minute deal could potentially lead to a technical default because  of the possibility of back-room clerical mistakes like the Treasury Department made in 1979, (2) just because something is repeated as fact (‘the US has never defaulted’) does not mean it is true, and (3) in 1979, there was a 60 basis point (0.60%) increase in interest rates and higher rates persisted even after the technical default was cured. [7]   We cannot afford to pay any extra interest on our massive Public Debt, which argues for both sides compromising enough to get a deal.  Fortunately, as of this writing, a deal appears to be in reach.

[1] http://economix.blogs.nytimes.com/2011/01/04/fearing-another-u-s-debt-default/

[2] http://www.washingtonpost.com/business/economy/delayed-payments-in-1979-offer-glimpse-of-default-consequences/2011/07/10/gIQARRBj7H_story.html?hpid=z1

[3]  Alex J. Pollock describes it here: http://spectator.org/archives/2009/01/21/was-there-ever-a-default-on-us/.

[4] http://www.bloomberg.com/news/2011-07-29/defaulting-like-it-s-1979-the-ticker.html

[5] http://blogs.wsj.com/marketbeat/2011/07/25/1979-the-last-time-we-defaulted/

[6] http://www.washingtonpost.com/business/economy/delayed-payments-in-1979-offer-glimpse-of-default-consequences/2011/07/10/gIQARRBj7H_story.html?hpid=z1

[7] http://blogs.forbes.com/beltway/2011/05/26/the-day-the-united-states-defaulted-on-treasury-bills/

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