The U.S. is approaching the moment it may have to decide which bills to pay, a prospect Treasury Secretary Timothy F. Geithner has called “unacceptably risky and unfair” to Americans.
The Obama administration will brief the public no earlier than when financial markets close today about priorities for paying the nation’s obligations if the U.S. debt limit isn’t raised by then, a Democratic official said.
Deciding who gets paid and who doesn’t, a process members of Congress have called “prioritization,” is fraught with politically perilous choices for the administration, forcing it to pick among bondholders, retirees and the military, said Mark Zandi, chief economist at Moody’s Analytics. An administration official yesterday said the Treasury will give precedence to making interest payments on government bonds.
“Once you prioritize people, it would scare people and make some very angry,” Zandi said. “If they put the debt payments ahead of Social Security payments, that would create some political repercussions.”
Six-month Treasury bills maturing Aug. 4 pared losses. The rate on the bills was 0.155 percent at 4:51 p.m. yesterday in New York, down from as much as 0.2 percent.
“There’s really no alternative to favoring the bondholders,” said Christian Cooper, head of U.S. dollar derivatives trading in New York at Jefferies Group Inc., which as one of the 20 primary dealers is obligated to bid in Treasury sales. “The alternative would point to a default.”
The Obama administration says the Treasury’s borrowing authority runs out Aug. 2 and that it may not be able to pay all of its bills after that date unless the nation’s $14.3 trillion debt limit is raised.
Standard & Poor’s placed the U.S. AAA rating on “CreditWatch” July 14, saying there is a 50 percent chance it would be cut in the next 90 days even if an agreement is reached by Aug. 2. S&P said it needs to see “a credible solution to the rising U.S. government debt burden.”
Democrats yesterday were trying to break an impasse over raising the debt limit by devising a strict enforcement mechanism to guarantee future deficit savings, according to Democratic officials.
Geithner, in a letter last month to Senator Jim DeMint, Republican of South Carolina, called prioritizing the country’s bills “unwise, unworkable, unacceptably risky and unfair to the American people.”
The option “has been rejected by every president and secretary of the Treasury who have considered it,” Geithner wrote. “There is no alternative to enactment of a timely increase in the debt limit.”
The Washington-based Bipartisan Policy Center, a research group founded by former Senate leaders from both parties, estimated in June that the federal government wouldn’t be able to fund about 50 percent of its obligations unless Congress approves an increase in the debt ceiling.
From Aug. 3 until the end of the month, the Treasury would have about $172.4 billion of revenue while owing $306.7 billion, leaving a shortfall of $134.3 billion, according to the report.
For example, Social Security benefits for that period cost $49.2 billion, the group estimated. Medicare and Medicaid total $50 billion, defense vendors and active military duty pay cost $34.6 billion and unemployment insurance benefits are $12.8 billion. Federal salaries and benefits total $14.2 billion.
“It is logistically difficult to manage the payment stream in a way that minimizes the chances for a default,” said Ed Wilson, a partner at Venable LLP and a former Treasury official. “The closer you get to default, the less headroom there is in cash flow.”
In 1985, the Government Accountability Office released a legal opinion saying the “Treasury is free to liquidate obligations in any order it finds will best serve the interest of the United States.”
Still, the Treasury has never prioritized payments, Geithner said in his letter to DeMint. Prior Treasury staff have provided logistical advice to the White House on such a move, while Justice Department officials have offered legal opinions.
“There is no explicit statutory authority for the executive branch to prioritize payments,” said Jay Powell, visiting scholar for the Bipartisan Policy Center and a Treasury undersecretary for President George H.W. Bush. “In our system of government Congress decides what to pay and orders the executive branch to carry out its wishes.”
Senator Pat Toomey, a Republican from Pennsylvania, this week introduced legislation that would require the Treasury to prioritize payments for debt service, Social Security and active-duty military pay.
The Fed processes the Treasury’s entitlement payments, such as Social Security, Medicare and Medicaid. Most are done electronically through the reserve banks’ automated clearing house. In 2010, the Fed’s reserve banks processed 1.2 billion automated clearinghouse payments and 185 million Treasury checks, according to the Fed’s 2010 annual report.
The administration has also been reluctant to discuss prioritization because it wants to keep the onus on Congress to raise the debt ceiling before Aug. 2, said Mark Calabria, director of financial regulation studies at the Cato Institute in Washington.
“Once you start saying that certain things can be paid without raising the limit, you reduce pressure to raise the limit,” he said. “This is all about keeping the pressure on Congress.”
Meeting With Bankers
Treasury officials have a previously scheduled meeting today with Wall Street bond dealers ahead of next week’s quarterly auctions of notes and bonds. The officials will talk with the Treasury Borrowing Advisory Committee, which includes executives from financial firms such as JPMorgan Chase & Co. (JPM), Goldman Sachs Group Inc. (GS), Morgan Stanley (MS), Bank of America Corp. (BAC) and Pacific Investment Management Co.
“The consequences of inaction -- for our economy, the already struggling job market, the financial circumstances of American businesses and families, and for America’s global economic leadership -- would be very grave,” the executives wrote in the letter sent yesterday by the Financial Services Forum.
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