The Democrats' disastrous debt deal

AUSTIN — There is an odious American political mythology concerning bipartisanship, according to which bitter adversaries, scarred by battle, find common ground, join hands, and stroll off together into the sunset. It is mostly hokum. Ulysses S. Grant did not reconcile with Robert E. Lee after Appomattox. Franklin D. Roosevelt did not reconcile with Herbert Hoover during the Great Depression, nor John F. Kennedy with Richard Nixon after the 1960 election. One does hear sugary reminiscences of Ronald Reagan and Tip O’Neill swapping blarney. But the real O’Neill fought Reagan, on principle and on politics, with everything he had.

In the spirit of the myth, US President Joe Biden recently praised Speaker of the House Kevin McCarthy after committing an appalling act of political surrender, on tax enforcement, social programmes, student debt, the environment and more. Worst of all, Biden abandoned the principle that the debt ceiling should not obstruct progressive priorities in the future. But everything is all right, we are told, because Biden and McCarthy worked things out together. They even still like each other, or so Biden claims.

But the White House and the Treasury had at least three plausibly legal, wholly constitutional ways to defuse the supposed crisis without involving McCarthy and his increasingly unhinged Republican caucus. The administration could have minted a high-value platinum coin and deposited it at the Federal Reserve; resorted to consol bonds (which never mature); or issued premium bonds. Instead, they emerged from their trenches, waved a white flag, and bargained away the keys to their fortress — all so that the besieging army would go away for a couple of years. Worse, like everyone else who was watching, the Democrats knew that the Republican troops were divided and mutinous. Biden demonstrated that when he told them, correctly, to get lost when they first approached.

But there is an even bigger truth that no one wants to admit: the Republicans’ big bomb was always a dud. The Treasury, by law, cannot stop or prioritise payments. There also is no procedural off switch. Secretary of the Treasury Janet L. Yellen and her predecessors have long emphasised this whenever they have been asked. Even if you cross the “limit”, the checks still must go out. The debt ceiling only prevents the Treasury from issuing new bonds. In the worst case, the Fed’s Treasury General Account (TGA) would have insufficient funds to cover the checks.

At that point, the Fed probably could have issued a line of credit, an overdraft, to ensure that the payments were honored, even if its leadership hated doing so. Overdrafts almost surely have occurred within the limits of a single day, but they have not attracted attention because the TGA is settled only at night. Unsecured, no-interest, overnight overdrafts are not covered by the debt ceiling and are arguably a legal possibility. The Fed’s own records state that the matter would be decided by its Board of Governors.

True, the question might ultimately be tested in court, but so what? If the Fed so decided, or if a court so ordered, some of those Treasury checks could bounce, becoming unsecured claims on the Treasury. And if banks refused to honour them, how long would it take before the Fed (led by a Republican) made a desperate appeal to Congress to resolve the “crisis”? I suspect that would happen well before markets opened the next day.

If breaching the debt limit had really risked “catastrophe”, the blame would have laid with those Republicans who decided to make an issue out of it, and they almost surely would have folded. And if, against all logic, they chose political suicide, so much the better for the Democrats. The White House held the big guns either way, yet still it surrendered. It seems that Biden’s advisers did not particularly care about the concessions made in the deal, and that at least some people had a strong economic reason to avoid the aftermath of a “default”.

Let’s examine that scenario. Suppose McCarthy’s forces held, Biden did not surrender, the Fed issued overdrafts, and the political stalemate dragged on. Even then, life would go on normally, except that maturing Treasury bonds would be paid off in cash, because they would no longer be rolled over. Of course, bondholders might not like that, and they might use their cash to buy something else. As Hillary Clinton warned in the New York Times, the international dollar would fall, implying that the tiny elite who live by the international dollar would take the bigger hit.

For the rest of the country, the situation would be analogous to when Roosevelt suspended the gold standard and launched the New Deal in 1933. American industry would become more competitive, and industrial and manufacturing jobs would start to return. America would have a chance to begin to undo the vast damage inflicted by Big Finance and imperial overreach over the past 40 years. Though there are of course costs to a lower dollar, these must be weighed against the benefits. Besides, a weaker dollar is coming anyway as the world gradually moves to multipolarity.

The “catastrophe” scenario was absurd from the start. This was really about the character of the Democratic Party. Would it continue to cater to Big Finance, as it has since the 1990s? Or would it be forced to represent the interests its own voters and of the American people?

If Biden is reelected, congressional Democrats will face the same choice again in 2025. They can agree to more concessions and once again hide behind the rhetoric of “bipartisan cooperation”, or they can finally refuse to submit to extortion.

And if Biden is defeated? The Republicans will do whatever they want, with federal programs, with regulations, with taxes, and with the debt ceiling. This latest disgraceful episode has made such an outcome more likely. After all, who needs a Democratic Party that won’t stand up for itself or its constituents?

James K. Galbraith, professor at the Lyndon B. Johnson School of Public Affairs at the University of Texas at Austin, was executive director of the Joint Economic Committee (1981-83) during the Reagan administration and under the speakership of Thomas P. O’Neill. Copyright: Project Syndicate, 2023. www.project-syndicate.org