In the last run up to the debt ceiling, some people proposed that the President avoid the messiness of dealing with Congress by issuing a Trillion Dollar Platinum Coin. In this scheme, the Federal Reserve was to buy the Trillion Dollar Platinum Coin with new electronic entries, redeemable in Federal Reserve Notes, obtaining something having an intrinsic value of $1400 for something having an intrinsic value of zero, but having a nominal value of a Trillion Dollars. The U.S. Treasury was to record the difference between a Trillion Dollars and the cost of the coin as income, and this “income” would enable the Federal Government to continue to spend more than its receipts without the Congress raising the debt ceiling. At the time, naysayers focused on the act authorizing the issue of bullion and collectible coins by the Treasury, as to whether the act (possibly inadvertently) authorized such a scheme. While the naysayers satisfied themselves that the act did not, there always was a further problem with the scheme, namely, the accounting of the transaction. (Since the coin could be tendered to the Treasury in payment of taxes and other dues, the coin was a liability of the Treasury.)
Now we have a new hair-brained idea as to how the President can continue to spend more than he takes-in without Congress approving an increase in the debt ceiling.
The new idea is for the U.S. Treasury to issue (super) Premium Bonds, recording the premium as income. Here’s the way this idea is supposed to work: The Treasury replaces a Trillion Dollars of debt coming due during the next year with new debt; nothing extraordinary so far. Only, the new debt consists of long-term bonds paying a coupon interest rate (much) higher than the current market rate for such bonds. Let’s say the current market rate for twenty-year U.S. Treasury Bonds is 3 percent. Then, the market value of a Treasury Bond paying 9½ percent would be approximately twice its face value. For people not versed in the language of finance, the “shylock” is willing to come across with a larger “big” because of the larger “juice.”
This idea of the Premium Bond is an improvement over the Platinum Coin in that it does not rely on a dummy buyer (the dummy buyer in the Platinum Coin scheme being the Federal Reserve). The Premium Bond is sold to willing buyers in a marketplace transaction. Indeed, bonds are routinely bought and sold at premia and at discounts, both in the primary market (where bonds are issued and bought and sold for the first time) and in the secondary market (where current owners sell outstanding bonds to buyers who become the bonds’ new owners). Accordingly, the accounting rules for the transaction are well-developed. Any material premium is treated as a liability and any material discount as a contra-liability, and these are amortized over the life of the bond.
In the case of a twenty-year 9½ percent U.S. Treasury sold at twice its face value, the premium would be recorded as a liability, along with the face value of the bond. Then, during the life of the bond, the premium would be reduced a little each year as interest payments are made, so that the interest payments are treated partially as an expense and partially as repayment of principal. In a sense, the accounting rules “undo” the Premium Bond scheme, and record the transaction for what it actually is, a debt in excess of the face value of the bonds. The Premium Bond scheme is, therefore, not an end-run around the Congress, not unless the President attempts to cook the books.
Instead of Platinum Coins and Premium Bonds to deal with the budget shortfall during a time of divided government, think Asset Sales.
The Premium Bond Solution?
Clifford F. Thies is the Eldon R. Lindsay Professor of Economics and Finance at Shenandoah University. He received his Ph.D. in economics from Boston College.