Saturday, January 5, 2013

The Trillion Dollar Platinum Coin Gambit

The U.S. Constitution gives Congress the authority to borrow money.   Since WW2, Congress has allowed the Treasury to borrow as it wishes, subject to a total limit on borrowing.  

Since the federal government has been running deficits more or less continuously since the late sixties, the limit has been increased periodically.

If the limit was not increased and the national debt reached the limit, then the budget would need to be balanced immediately.  The government could only spend the revenue it receives from taxes and fees.   

The national debt is made up various bonds, bills, and notes.   They are constantly coming due, and the Treasury sells new bonds to pay off the old bonds.  

If the debt limit was reached, refinancing the existing debt would still be allowed.    When the old bonds are paid off, the national debt decreases below the limit.  When the new bonds are sold, the national debt rises back to the limit.

It is only new borrowing to fund current expenditures that would be prohibited.   Current expenditure would be limited to current tax revenue.   However, there is the matter of interest on the national debt.   Bonds and notes typically require regular interest payments.   Bills are sold at a discount from face value and when they are paid off at face value, interest must be paid.    Interest is a current expense.   If the debt limit is reached, interest must be paid out of current receipts--tax revenues and fee income.

The government would default on its debts if it failed to pay off the bonds as they mature and pay the interest when it is due.   To avoid default, then, the government would have to reduce all other expenditures to whatever tax revenues (and fee income) remains after paying interest on the national debt.

In my view, the President has the inherent authority to allocate the remaining funds as he sees best.   While he has no authority to exceed what has been appropriated by Congress on any line item, it is simply impossible to spend more money than is available.

If the President decides that other current expenditures are more important than paying interest on the national debt, then he has chosen to default.   Since default on U.S. debts is contrary to the U.S. Constitution, this would be illegal.   In my view, short of a constitutional amendment, the President must treat interest on the national debt as an absolute priority.  

If Congress disagrees with the President's priorities, it can reduce the appropriations for those things the President is spending on, leaving more money for other purposes.  Of course, Congress could also raise taxes or authorize additional borrowing--increase the debt limit.   If Congress were to reduce the appropriation to pay interest on the national debt, then it would be choosing to default.   This would be unconstitutional, and the President could and probably should pay the interest anyway.

In the late sixties, President Nixon decided to restrain government spending to reduce projected deficits.   The national debt was below the limit.   Congress passed a law requiring that the President spend all appropriated money.   

This is the law that supposedly means that failure to increase the debt limit leads to default.   Supposedly, the President must just spend money as if there were sufficient funds until it runs out.    Interest payments due after the money runs out would not be paid.   And so, failure to increase the debt limit leads to default.     

This is absurd.   If taxes and borrowing are not adequate to fund appropriated spending, then the President must limit spending to what is available to be spent, and interest payments must be paid first.  

I am the Mayor of a small Town.   We have a budget and Council has approved line items for many things.    However, our expenditures are limited to the funds we have available.   It is normal for expenditures to be timed according to when the funds become available and if the funds are slow to arrive, the expenditures will be postponed.   Revenues in the budget are forecasts, and if revenues are less than the forecast, the "postponement" ends up being permanent. 

Some expenditures are more important than other expenditures.   Paying principal and interest is very high on the list.   Further, there are some line items that no one insists be spent.   For example, if the "office supplies" line has left over funds, no one will complain.

But then, my Town is not in a position to borrow whenever we want.  (There are restrictions imposed by state law.)   

For those of us who are fiscally conservative, the ability of the federal government to borrow whenever it wants is a problem!  While President Nixon wanted to spend less than Congress wanted (in some areas, anyway,)   President Obama wants to spend more.   He and his supporters find it convenient to treat the law requiring that all appropriated funds be spent as primary.


There is another source of funds besides borrowing and tax revenues.

The platinum coin gambit is a proposal that the Treasury mint a $1 trillion platinum coin and deposit it at the Fed.   The Treasury then writes checks against its Fed deposit, funding the deficit with  newly created money (the coin) rather than by borrowing.

Congress gave the Secretary of the Treasury authority to mint platinum coins as he sees fit.   The intention was to authorize the Treasury to mint coins that had a legal tender value much lower than their metallic value, and then sell them to investors for more than the metallic value.    For example, a $100 coin weighs about an ounce, and the current market value of the metal is about $1,500.   The Treasury sells them for a bit more than $1500 and earns a small profit.   The $100 legal tender value of the coin is irrelevant--unless there is a very radical drop in the market value of platinum.

There is also a $10 coin that is made of platinum worth about $150.    Now, suppose that same coin, with platinum worth $150, was instead denominated as $1000?    

The metal value of the coin would be a cost to the Mint, but people would be willing to pay approximately $1,000 for such a coin.    Instead of selling the coin for a small amount more than its metallic value, the Treasury would earn $850 per coin it sells.

What would the buyers do with these coins?   Most likely, they would deposit them in their banks.  And what would their banks do with them?   Most likely, they would deposit them at the Fed.   And what would the Fed do with them?  Most likely, nothing.   (If the Fed thought that bank reserves were being driven too high, it would sell off some of its other assets--government bonds or mortgage backed securities.   But it might not do anything at all.)

What would the Treasury do with the $1000 it gets for the coin?   It would deposit it at the Fed, and spend $850 on goods and services.

However, rather than "sell" the coins for approximately $1,000, the Treasury could simply spend them.   For example, when the bonds and bills making up the national debt come due, the Treasury could pay them off with the $1,000 platinum coins.   Those receiving the coins would deposit them in their banks.   The banks would deposit them in the Fed, and the result is the same.

The $1 Trillion dollar coin just takes this idea to an extreme.   Rather than minting many $1,000 coins, a single coin deposited at the Fed has the same affect.

In my view, avoiding congressional limits on borrowing by turning a law authorizing issuing and selling coins with a small legal tender value and high metallic value for a price higher than that metallic value into an issue of coins with a small metallic value but a high legal tender value would be wrong.   

However, there is no need to use platinum coins at all.    The Treasury could mint dollar coins and use them to pay its bills.   Those receiving the dollar coins would deposit them at their banks, which would then deposit them at the Fed.     The seigniorage on dollar coins is about 85 cents.

Of course, there is really no reason for the Treasury to spend the coins.   It would be simpler to deposit them at the Fed.   Today, the Fed asks the Mint for coins to meet the demands of banks.  The Mint delivers them and the Fed pays for them by crediting the Treasury's account.  

Turn that around.   The Treasury delivers the coins to the Fed based on how much it needs to spend and the Fed pays for them by crediting the Treasury's account, which then just spends the money.

Some might argue that this procedure is unconstitutional.   The Federal government makes all of its coins legal tender (as well as Federal Reserve notes,) but the Constitution doesn't give Congress the power to make anything legal tender.   The several States have that power, but they can only declare gold and silver legal tender.

However, if the coins were made of gold or silver, then there would be no problem.    There would be nothing unconstitutional about having a one ounce silver coin denominated as $1,000.   There is no requirement that the Mint buy silver for a price of $1,000 an ounce.    It could pay the market rate of approximately $38, make coins denominated as $1,000, and either spend them or deposit them at the Fed (or a private commercial bank) and then write all checks it needed.

Of course, that would require Congress to authorize such a silver coin.   If  instead, Congress insisted that coins of one ounce be denominated $38 or less, then that source of funds would not be available to the Treasury.    But if the current cupro-nickel coins that Congress has authorized are constitutional  then the Treasury has the power to mint lots of authorized coins and fund all the spending it wants.  

(Given this legal source of funds, perhaps the Treasury is required to use this power to fund all legal appropriations!)   

In my view, this possibility simply illustrates that the U.S. has an inadequate monetary constitution.   The Treasury should not have the ability to create money to spend by minting coins.   It should have to get Congressional approval to raise taxes or borrow money.  

More importantly, the U.S. Constitution should require that the monetary authority be limited by a sensible nominal anchor, ideally a growth path for spending on output.    Requiring that money be "coined" and hinting that it be made of gold or silver, is approximately worthless as a limit on monetary abuse.

And really, the $1 trillion dollar platinum coin shows what a worthless restraint that is. 


  1. Interesting post---and you reminded me that the 50 states can issue their own coins, if made of silver or gold.

    But no Consittutional delineation of value.

    In other words, California could issue a $1000 coin, made from an ounce or two of silver.

    So, a state like CA, which needs a boost that it is not getting from the Fed, could issue its own $1000 silver coins and use them to pay state bills.

    Employees and vendors would accept the coins, as they had no choice anyway, and as they know they can pay state taxes with the coins.

    This would boost CA’s money supply.

    There is no saying that the Fed money supply to perfect for every state, just like the ECB’s is not right for every nation in Europe.

    Well, state silver coins are up there with Treasury platinum coins…

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