With the federal government partly shut down and the footsteps of the debt ceiling clomping closer, the search is on for worst-case, last-gasp, what-if-we-have-to-ram-the-asteroid solutions. The latest of these is the “Presidential bond,” a.k.a. the “Obama bond,” a.k.a. this year’s answer to 2011’s trillion-dollar coin.
This is a bond issued by the president unilaterally, without congressional authorization, to make sure the U.S. doesn’t default on its debt. The problem with this bond is that the president doesn’t have the authority to issue bonds without Congress, which is why we’re looking ahead to a debt ceiling showdown in the first place.
You might think this would be a deal-breaker for such a resolution, except for the fact that while everybody agrees the president doesn’t normally have that authority, he or she does have the authority to do the things that are demanded of him or her by the Constitution. And one of those is paying the nation’s debts, thanks to the 14th Amendment, which specifically enjoins the government from defaulting.
The most thoroughly argued case in favor of the president issuing bonds to roll over the U.S. debt and breach the debt ceiling comes from legal scholars Neil Buchanan and Michael Dorf. They call doing so the “least unconstitutional” of the president’s options should the debt ceiling not be raised. The legal case for this is tenuous; Fortune‘s Roger Parloff offers an illuminating discussion, if you want to get into the details. Still, if the shutdown bleeds into the Oct. 17 debt ceiling deadline, a lot of folks will be on the hunt for even tenuously legal solutions.
It feels like the presidential bond, legal or not, is a less patently absurd solution than the trillion-dollar coin. And if it comes to that, TMN will go on record as saying that such a bond, paying a substantial premium to regular U.S. bonds, would be a terrific investment. Buchanan and Dorf write:
“As a hedge against the possibility that the government would later default on debt issued by a president acting without congressional authorization, bond purchasers might demand very high rates of interest for the “radioactive” bonds…”
Indeed, they would. That’s one reason (among a multitude) that taking the debt ceiling approval all the way to Oct. 17 is a terrible idea. That said, the chance that the U.S. would not pay back that debt is vanishingly small. Even the Republican right has been willing to assure that federal employees would get back pay during the shutdown. In a worst-case scenario, it’s conceivable that if a court invalidated “presidential bonds,” holders might get plain old Treasuries in exchange.
Nobody is going to go for a scenario in which holders of even ambiguously legal debt don’t get paid. Anything else would tell investors that whether they’ll get their money back depends on who is in power. And down that path lies … Argentina.
Sovereign default bonus round: The U.S. Supreme Court today declined to take Argentina’s appeal of rulings that require it pay off defaulted bonds held by Elliott Associates — rulings that essentially hold hostage Argentina’s other accounts unless it does. Felix Salmon at Reuters has given a blow-by-blow commentary on the running saga of Elliott vs. Argentina over the last months, and is a good tour guide to how Argentina got here. As far as U.S. courts are concerned, this seems to be the end of the line (it is the Supreme Court).
Figuring out who is in the right here, legally speaking, is way above this financial writer’s pay grade; as Salmon point out, both sides have engaged their share of New York’s highest-priced legal talent. From a public policy standpoint, though, sovereign states are a unique case, and it’s a little scary when U.S. courts seize their assets for not paying their debts. Default is effectively the bankruptcy of sovereign states: They wipe away debts, go into the international doghouse for years and can’t borrow more money.
Like bankruptcy, sovereign default is a release valve, and without it there’s the potential for social unrest and anti-US. sentiment among citizens of countries that feel like they’ve been hijacked by private lender interests. That doesn’t mean that U.S. courts are wrong here on the law (though Salmon thinks they are), and yes, Argentina risked this by issuing bonds governed by U.S. law. But the potential fallout is troubling.
(Belated update Oct. 22: Felix Salmon emailed to say that, no, this is not the end of the line for Argentina. The U.S. Supreme Court rejected one appeal, related to the penalties Argentina faced. But there’s still an appeal pending the 2nd Circuit, and possibility of another Supreme Court appeal after that.)