[Senate Hearing 113-193]
[From the U.S. Government Publishing Office]
S. Hrg. 113-193
IMPACT OF A DEFAULT ON FINANCIAL STABILITY AND ECONOMIC GROWTH
=======================================================================
HEARING
before the
COMMITTEE ON
BANKING,HOUSING,AND URBAN AFFAIRS
UNITED STATES SENATE
ONE HUNDRED THIRTEENTH CONGRESS
FIRST SESSION
ON
DISCUSSING THE FINANCIAL MARKETS AND POTENTIAL ECONOMIC IMPACTS OF A
DEFAULT IF THE STATUTORY DEBT LIMIT IS NOT RAISED AND THE TREASURY IS
UNABLE TO FULFILL THE FINANCIAL OBLIGATIONS OF THE UNITED STATES
__________
OCTOBER 10, 2013
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COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS
TIM JOHNSON, South Dakota, Chairman
JACK REED, Rhode Island MIKE CRAPO, Idaho
CHARLES E. SCHUMER, New York RICHARD C. SHELBY, Alabama
ROBERT MENENDEZ, New Jersey BOB CORKER, Tennessee
SHERROD BROWN, Ohio DAVID VITTER, Louisiana
JON TESTER, Montana MIKE JOHANNS, Nebraska
MARK R. WARNER, Virginia PATRICK J. TOOMEY, Pennsylvania
JEFF MERKLEY, Oregon MARK KIRK, Illinois
KAY HAGAN, North Carolina JERRY MORAN, Kansas
JOE MANCHIN III, West Virginia TOM COBURN, Oklahoma
ELIZABETH WARREN, Massachusetts DEAN HELLER, Nevada
HEIDI HEITKAMP, North Dakota
Charles Yi, Staff Director
Gregg Richard, Republican Staff Director
Laura Swanson, Deputy Staff Director
Glen Sears, Deputy Policy Director
Elisha Tuku, Senior Counsel
Krishna Patel, FDIC Detailee
Greg Dean, Republican Chief Counsel
Mike Lee, Republican Professional Staff Member
Dawn Ratliff, Chief Clerk
Kelly Wismer, Hearing Clerk
Shelvin Simmons, IT Director
Jim Crowell, Editor
(ii)
C O N T E N T S
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THURSDAY, OCTOBER 10, 2013
Page
Opening statement of Chairman Johnson............................ 1
Opening statements, comments, or prepared statements of:
Senator Crapo................................................ 2
Senator Reed................................................. 3
Senator Menendez............................................. 3
Senator Toomey............................................... 5
Senator Brown................................................ 6
Senator Warner............................................... 7
WITNESSES
Frank Keating, President and Chief Executive Officer, American
Bankers Association............................................ 7
Prepared statement........................................... 37
Response to written questions of:
Senator Coburn........................................... 53
Kenneth E. Bentsen, Jr., President, Securities Industry and
Financial Markets Association.................................. 8
Response to written questions of:
Prepared statement........................................... 39
Senator Coburn........................................... 54
Gary Thomas, 2013 President, National Association of
Realtors'........................................... 10
Prepared statement........................................... 42
Response to written questions of:
Senator Coburn........................................... 55
Paul Schott Stevens, President and CEO, Investment Company
Institute...................................................... 12
Prepared statement........................................... 46
Response to written questions of:
Senator Coburn........................................... 56
(iii)
IMPACT OF A DEFAULT ON FINANCIAL STABILITY AND ECONOMIC GROWTH
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THURSDAY, OCTOBER 10, 2013
U.S. Senate,
Committee on Banking, Housing, and Urban Affairs,
Washington, DC.
The Committee met at 10:02 a.m. in room SD-538, Dirksen
Senate Office Building, Hon. Tim Johnson, Chairman of the
Committee, presiding.
OPENING STATEMENT OF CHAIRMAN TIM JOHNSON
Chairman Johnson. Good morning. I call this hearing to
order.
This Committee has many important issues to consider and
plenty of challenges our constituents want us to solve together
on a bipartisan basis. However, we find ourselves on Day 10 of
a Government shutdown that is costing taxpayers money. In
addition, the shutdown drags down our economic recovery with
each passing day. This unnecessary shutdown does nothing to
address our long-term fiscal challenges and is certainly not
promoting job creation in the short term.
If that were not bad enough, we have only 1 week left
before we reach our Nation's debt limit. If Congress does not
act soon, the United States will fail to pay its bills in full
and on time by choice for the first time in history. I do not
favor making the United States into a deadbeat Nation, which
would be the consequence if we do not raise the debt ceiling.
While we must work to address our long-term fiscal issues, a
default on our debt will not reduce our deficit. And there is
little to nothing Congress could do after the fact to repair
the damage that would be felt for generations.
It is important to remember the mere threat of a default
can have significant costs. During the last major debate on the
debt limit in 2011, the uncertainty and delays in raising the
debt ceiling cost taxpayers about $1.3 billion for that fiscal
year, according to GAO. Over a 10-year window, the taxpayer
cost could be as high as $18.9 billion.
So today, before it is too late, we will hear from our
witnesses about the kind of impacts we should expect if the
United States defaults. We will hear what this could mean not
only for the financial system, but also for American families'
ability to pay their bills, small businesses' ability to create
jobs, and current, as well as future, retirees' ability to
protect their life savings.
It is time to stop playing this foolish game of chicken
with our economic recovery, and it is time for Congress to
focus on addressing the real problems our constituents sent us
to Washington to solve. To do that, we must first raise the
debt limit.
With that, I recognize Ranking Member Crapo for his opening
statement.
STATEMENT OF SENATOR MIKE CRAPO
Senator Crapo. Thank you, Mr. Chairman, and thank you to
our witnesses for appearing today to present your thoughts on
this important topic.
While there has been a lot of recent attention on what
happens if the debt limit is not increased, there has been less
attention on our larger, wider, real debt crisis. The statutory
debt limit is currently $16.7 trillion. Since 2009, the debt
limit has been increased by $5.4 trillion. CBO projects that
debt subject to the debt limit will reach $25 trillion within
10 years. The statutory debt limit is a symptom of our fiscal
problems and must be addressed.
Since we have already focused on the impact of failing to
lift the debt ceiling, I would like to focus on the debt
itself. According to recent Treasury figures, the gross debt
has increased $6.1 trillion since 2009. Deficits are projected
to be the norm as our aging population and rising health care
costs push spending higher. Unless we make significant reforms
to entitlement programs, they will crowd out all other
Government spending from infrastructure to defense. Failure to
improve these programs also threatens them with insolvency,
which will happen within a generation if we do not act now.
In recent years, we have made important progress in some
areas of fiscal policy. For example, we have begun to actually
make Federal agencies go through their budgets to identify and
eliminate waste and to identify fraud and abuse and set
priorities and learn to do more with less. But the mid- and
long-term projections from CBO show that our debt crisis is
only going to get worse if we do not substantively deal with
the fiscal policies that we have, thus far, far failed to
address, namely, entitlement reform and pro-growth tax reform.
The Committee for a Responsible Federal Budget recently
noted that most of the deficit reduction agreements made since
1980 have been accompanied by a debt ceiling increase. I joined
fellow members of the Finance Committee recently in sending a
letter to Secretary Lew suggesting that we again use the debt
limit as an opportunity to bring lasting reforms and debt
reduction to our Nation.
As a member of the Bowles-Simpson Fiscal Commission and the
Gang of Six, I know there has been a lot of work done on this
issue and that both sides can find common ground. Tax reform is
an equally important component in getting the debt under
control. The current Tax Code is inefficient and burdensome. We
need to dramatically simplify our Tax Code, reducing rates for
all taxpayers so that we can create economic growth.
I am interested in the thoughts of our panel on how the
current Tax Code affects investment. The debt ceiling debate
creates an opening for real progress in these areas. Now is the
time to work together on solutions that reduce our deficits and
move our economy forward. It is time to make these hard
decisions.
Thank you, Mr. Chairman.
Chairman Johnson. Thank you, Senator Crapo.
Are there any other Members who would like to give brief
opening statements? Senator Reed.
STATEMENT OF SENATOR JACK REED
Senator Reed. Well, thank you very much, Mr. Chairman. I
think this is a very important hearing. We are on the verge of
doing something that I think is not only unwise policy but
flies in the face of the Constitution. The Fourteenth Amendment
particularly says:
The validity of the public debt of the United States,
authorized by law, including debts incurred for payment of
pensions and bounties for services in suppressing insurrection
or rebellion, shall not be questioned.
We are certainly questioning that as we lead up to this crisis.
And so this is not a trivial matter. Our forefathers, our
predecessors, recognized the importance of paying the debt on
time every time and enshrined it in the Constitution, and we
are on the verge of breaching that sacred commitment that we
have all taken. That is the oath we take. And I think everyone
is in favor of long-term, wise policies, et cetera, but we are
talking about within a few days breaching and defaulting on the
debt.
I could not agree more with Governor Keating's comments in
the Washington Post, and thank you for being here, Governor
Keating. In his words:
Using the debt ceiling as leverage in the deficit debate is
unwise and dangerous. Citizens nationwide are frustrated with
the political stalemate in Washington, but our Nation's
financial integrity should not be used as a bargaining chip.
I absolutely agree, and thank you for that statement,
Governor.
What we potentially could do is set off a financial chain
reaction that would go from market to market to market with
unknown and perhaps catastrophic consequences. And anyone who
was here in 2007, 2008, and 2009 and saw the collapse of Lehman
and the bankruptcy, which everyone assumed, at least in the
Treasury, could be self-contained, could be worked out, was a
minor sort of blip on the scene, understands the potential
consequences in multiple markets--overnight Treasury markets,
mutual fund markets, et cetera.
Already we are seeing credit default swaps increase,
European banks reporting they have jumped to 150 million euros
from about 1.6 million euros in recent months. A huge spike.
Rates are going up on short-term Treasury bills. I just saw
today that the Hong Kong Stock Exchange has basically
downgraded already Treasuries as collateral, at least the
short-term Treasuries as collateral. So you can see the ripple
effect as this goes out. We have to raise the debt ceiling to
avoid default, and we have to do it promptly.
Thank you.
Chairman Johnson. Anybody else? Senator Menendez.
STATEMENT OF SENATOR ROBERT MENENDEZ
Senator Menendez. Thank you, Mr. Chairman.
Mr. Chairman, first of all, I appreciate your leadership in
having this extraordinarily timely hearing, and I think the
question of default is a question of both what happens at home
and abroad for us as America. And I hope my colleagues across
the aisle, and particularly in the House of Representatives,
would agree that defaulting on the Nation's debt would cause
tremendous harm to American families, businesses, and to the
global economy and would, in my view, dramatically weaken
America's standing in the world, not just in its respect and
stature but in ways that have consequential economic
significance to us here at home. And I would also hope that
they agree that these are outcomes no one wants to see.
I would say to our friends particularly in the House of
Representatives, who are threatening default, let us stop
lurching from one manufactured crisis to another manufactured
crisis and stop threatening to default on the Nation's
obligations. And I understand they have policy priorities,
although I am never quite sure which one it is that we are
talking about. First it was about ending Obamacare, which was
passed by the Congress, signed by the President, affirmed by
the Supreme Court, which is the final voice of what is the law
of the land, and then reaffirmed by the American people in the
reelection of the President, where there were two clear
choices.
Then it was about the medical device tax. Now I hear about
debt. And in that respect, I know that this debt ceiling was
raised by President Reagan 18 times, by President Bush 9 times,
and the second President Bush 7 times. So evidently, you know,
during those periods of time, there were 34 times in which the
debt ceiling was raised.
So I know there are other policy priorities people want to
achieve. I want to achieve comprehensive immigration reform. It
does not mean I am willing to shut down the Government until
the House of Representatives does what I want. I mean, it just
does not make sense to the American people as a way of doing
business.
You know, we ask countries around the world to actually
pursue fiscal structural reforms because we think it is in our
interest at the end of the day. And then we ultimately look at
the costs of a default, and I say to myself, `How do we have
standing in the world to be able to pursue those policies that
promote economic opportunity here at home?'
And I think the harm from default would take not just a
short term to recover from, but I think it could take a decade
to recover from. I think it sees an immediate drop in economic
growth, an increase in the amount of our Federal budget spent
on paying interest, money that comes directly out of the
taxpayers' pockets. Mortgage interest would rise; home values
could very well plummet at a time in which we are finally
getting recovery in the housing market. Student loans and
credit cards would become more expensive. Companies around the
country would see the cost of borrowing spike, seriously
harming their ability to invest and create jobs. Millions of
American families would see their savings for retirement or a
home or their children's college education decimated. And the
U.S. dollar, which is the final point I will make--and I think
about this in my other role as the Chairman of the Senate
Foreign Relations Committee--the U.S. dollar is the world's
most important reserve currency. And U.S. Treasuries are a safe
haven where investors know they can put their money in times of
crisis and uncertainty.
And this value to the world strengthens our economy and
lowers interest rates for American consumers, businesses, and
governments at every level. Why is that something we are
willing to risk over a political tactic? I cannot understand
it, and I hope that better senses will come shortly to the
Congress.
Thank you, Mr. Chairman.
Chairman Johnson. Anyone? Senator Toomey.
STATEMENT OF SENATOR PATRICK J. TOOMEY
Senator Toomey. Thank you, Mr. Chairman. I just want to
make a brief point in response to my colleagues from Rhode
Island and New Jersey.
I could not agree more with the sentiment about the
importance of the fact that the U.S. dollar is the world's
reserve currency. The importance of the U.S. Treasury
securities simply cannot be overstated as an investment
vehicle, as a benchmark for credit markets around the world, as
a source of safe and secure investment.
I hope as we have this discussion we can be honest and
candid about what we are really talking about here. As we all
know, if we do not raise the debt ceiling sometime soon, then
at some point we are going to have disruptive consequences
because tax revenue is only 85 percent of all the money that we
are planning to spend. It is not 100 percent. And that means
the other 15 percent has got to be borrowed. And if it is not,
then you have to make sudden and very, very unfortunate
decisions about which things get cut. That is very disruptive.
It is not where we want to go. And so I hope the President will
agree to actually address the underlying problems that got us
here so that we can avoid this.
Having said that, there is absolutely no circumstances
under which we should ever tolerate choosing willfully to make
sure that a missed payment would include a missed payment on a
Treasury security precisely because of the uniquely important
role that Treasury securities play.
And so I was disappointed that the Treasury Secretary at a
recent hearing refused to acknowledge the obvious--it is
obvious to me; maybe I should not consider it so obvious--that
he would not choose to default on a U.S. Treasury security
precisely because of the unique role that these instruments
play. But I hope we would agree that that would be the most
disruptive of the very unfortunate and disruptive options that
would be available.
So that is the context in which we are having this
discussion. I thoroughly agree with the comments of the Ranking
Member that at some point it is just irresponsible to not deal
with the underlying problem that gives rise to the need for all
of this debt. And, frankly, it is not clear to me why this
Administration should be the first Administration in modern
history to simply refuse to have a discussion about how we got
here at a moment like this.
Thank you, Mr. Chairman.
Chairman Johnson. I would like to remind my colleagues that
the record will be open for the next 7 days for additional
statements and other materials.
Senator Brown. Mr. Chairman?
Chairman Johnson. Yes.
STATEMENT OF SENATOR SHERROD BROWN
Senator Brown. Thank you, Mr. Chairman. My guess is that
what you just said was a suggestion that we not do opening
statements, but I will--that really just went over my head, Mr.
Chairman. I did not notice.
Thank you. I have a few comments, and I will not talk for
more than 2 or 3 minutes. Five years ago, we were dealing with
the financial crisis. We could be on the brink of another one,
this one self-inflicted, as Governor Keating mentioned in his
comments that Senator Reed mentioned.
In 2008, banks' funding dried up in the overnight repo
market because of worries about their collateral and their
creditworthiness. In 2010, we did not enact reforms that
perhaps we should have to the repo markets. Regulators are
working on it, but they are still vulnerable.
I sent letters yesterday to the two triparty repo clearing
banks--Bank of New York Mellon and JPMorgan--that were in the
middle of the short-term funding problems for Bear Stearns,
Lehman Brothers, and AIG. I asked them what effect a default
would have on the triparty repo market where 85 percent of the
market is backed by U.S. Treasuries or U.S. agencies'
securities. We are already seeing issues in the financial
market.
The Wall Street Journal reported that the cost of using
short-term Treasuries as collateral has already increased. The
world's largest money manager, as we all know, reportedly sold
off its Treasury holdings and maturity in late October.
Treasury Secretary Lew testified in front of Senator Menendez
and Senator Toomey and me and others that yields on short-term
Treasuries at Tuesday's auction nearly tripled from the week
before.
We also saw in that hearing where some are setting up a
construct where Government, Treasury, the President has to
choose between paying off bond holders, paying off Chinese
investors and Wall Street investors, choosing between that and
Medicare, veterans' benefits, funding everyday government in
this country--a choice that no one, absolutely no one should
inflict upon our Government. It has never been done before.
This week, I spent a lot of time this week calling
community bankers and business people and hospital
administrators and people running major research institutions
in my State, mostly, I assume, Republicans, although I do not
know their political affiliation. Most of them were incredulous
that we would even be thinking of this prioritization of--if we
reach the debt limit that we would prioritize even thinking
about making these choices between paying Wall Street and
paying Main Street, if you will. They cannot believe we are in
a position that some are saying we should not raise the debt
limit and inflict a crisis on themselves. I think Governor
Keating's comments say exactly that. It would be unwise and
dangerous to do this. We have no business moving our country in
this direction.
Mr. Chairman, thank you.
Chairman Johnson. Are there any other--I would like to--
Senator Warner.
STATEMENT OF SENATOR MARK R. WARNER
Senator Warner. Less than a minute. I just have to say that
this notion of prioritization, we are in uncharted territory.
We do not know what would happen. Why would we take that risk?
Again, respectfully, any list of prioritization which has
Social Security or Medicare and the military may or may not
work. But the thing that I find stunning is--and when I get to
our questions, I will ask Governor Keating this. As a former
Governor--and there are other Governors here--none of those
prioritization lists include the pass-throughs that help fund
State budgets, local budgets, hospitals. So you could
potentially have a circumstance where perhaps America does not
default, but every State and every locality either is in an
immediate budget crisis or they would have to default, and the
ripple effect is, again, unprecedented.
Thank you, Mr. Chairman.
Chairman Johnson. I would like to now introduce our
witnesses that are here with us today.
Mr. Frank Keating is the President and CEO of the American
Bankers Association. Previously he served as Governor of
Oklahoma.
Mr. Ken Bentsen is the president of the Securities Industry
and Financial Markets Association. He previously served as a
Congressman for the 25th District of Texas.
Mr. Gary Thomas is the President of the National
Association of Realtors'. He has been in the real
estate business for more than 35 years.
And, finally, Mr. Paul Schott Stevens is the President and
CEO of the Investment Company Institute. Previously he served
as Special Assistant for National Security Affairs to President
Reagan.
Mr. Keating, you may proceed.
STATEMENT OF FRANK KEATING, PRESIDENT AND CHIEF EXECUTIVE
OFFICER, AMERICAN BANKERS ASSOCIATION
Mr. Keating. Chairman Johnson and Ranking Member Crapo, I
am Frank Keating, President and CEO of the American Bankers
Association. As noted, I previously served two terms as
Governor of the State of Oklahoma and recently was a member of
the Bipartisan Policy Center's Debt Reduction Task Force.
I appreciate the opportunity to be here to discuss the need
to raise the debt ceiling and the consequences of failing to do
so.
Let me be very clear: We need to meet our obligations and
not create any uncertainty that we will do so--on time, every
time. In this country, our word is our bond. The respect and
admiration that the United States and its institutions inspire
around the world are based on the certainty that when our
Nation makes a promise, we keep it.
Ordinary Americans will bear the brunt of the damage if our
leaders do not prevent the United States from defaulting on its
debt for the first, the very first time in its history. We are
much closer to disaster this year than we were 2 years ago when
the debt ceiling standoff caused economic uncertainty to spike,
consumer confidence to plummet, and stock prices to spiral
downward--all because of the perceived risk of the United
States defaulting on its domestic and international debt
obligations. The 2011 debt standoff cost taxpayers close to $20
billion as nervous investors demanded higher interest on U.S.
Treasury bonds to account for the risk of a Government default.
If our Nation defaults on its nearly $17 trillion in debt, the
harm is likely to be measured in hundreds of billions of
dollars.
Even the slightest uptick in Treasury interest rates would
cascade throughout the economy. It would raise the costs for
taxpayers to service our country's debt and would raise the
borrowing cost for businesses, meaning job losses and price
increases. Default would be a blow to retirement funds, leaving
fewer resources available for our retirees. For banks, which
hold $3 trillion in Treasury, agency, and mortgage-backed
securities, the sharp decline in value of those securities
would translate into fewer resources available for mortgages,
business, auto, credit card, and student loans.
If Congress fails to act and we hit the debt ceiling, we
will set off a chain of events that will impact all Americans.
The consequences would not be easily reversed, and the
repercussions could linger for years, providing a constant drag
on our economy.
Default would also put the United States in the category of
reckless debtor nations that have broken their word in the
markets, which include Argentina, Venezuela, and Cameroon.
Defaults left those countries financial pariahs and debilitated
their economies.
The answer to managing our debt is not to simply stop
making our payments on money already spent. We should never
inject uncertainty into the markets that we as a country will
not keep our word and pay the debts that we owe. We must pay
our bills on time and in full; then we must carefully manage
our future spending and bring down our debt to a sustainable
level.
No one takes our national debt more seriously than I do. As
a Republican Governor, working with my entire 8 years a
Democrat House and a Democrat Senate, I balance my State's
budget 8 years running and worked with colleagues from both
sides of the aisle to ensure that our State honored its debts
and expanded its economy.
Later, I joined the Bipartisan Policy Center's Debt
Reduction Task Force, which endorsed in a bipartisan way
painful but necessary measures to put the country's fiscal
house in order. I urge Members of this Committee and the full
Senate and House to engage in a bipartisan way to find long-
term solutions to our growing debt levels.
If confidence is lost in our country's willingness to pay
its bills on time, we will have lost something that may be
impossible to regain: the world's trust.
Thank you. I would be happy to answer any questions you
might have.
Chairman Johnson. Thank you.
Mr. Bentsen, you may proceed.
STATEMENT OF KENNETH E. BENTSEN, JR., PRESIDENT, SECURITIES
INDUSTRY AND FINANCIAL MARKETS ASSOCIATION
Mr. Bentsen. Chairman Johnson, Ranking Member Crapo, and
Members of the Committee, my name is Ken Bentsen, and I am the
president of the Securities Industry and Financial Markets
Association. Thank you for the invitation to testify today
regarding the risks associated with a default on the Nation's
public debt. Given the important role U.S. Treasury debt plays
as a world currency and store of value, any such default would
negatively impact the economy and certainly disrupt the
operations of our financial markets. Indeed, the market has
already signaled increasing concerns regarding the public debt
limit, resulting in dramatic pricing effects on the short end
of the Treasury market and repurchase agreements, or repos.
Investors are voting with their wallets and their feet.
While we firmly believe that the time is long overdue for
the Administration and Congress to come together and develop
long-term solutions to our very real fiscal challenges,
voluntarily defaulting on the Nation's debt obligations should
not be an option for policymakers to consider.
Should Congress fail to raise the debt limit and the
Treasury is unable to meet interest and principal payments
coming due, it would trigger a series of events which
inevitably would lead to American taxpayers paying more to
finance our debt. Even a short-term failure to fulfill our
obligations would seriously impair market operations and could
have significant consequences to our fragile economic recovery.
Since the threat of default first arose in the summer of
2011, SIFMA has been engaged with its members in developing
scenarios to better understand the consequences of a failure to
pay on Treasury securities. Based on our work, we do, in fact,
believe that market participants are operationally prepared to
deal with the scenarios that a Treasury failure to pay would
present. However, as you know, a default by the U.S. Government
would be unprecedented and the consequences for the market and
the economy would be dangerously unpredictable, so no amount of
planning can identify and mitigate all of the potential short-
and long-term consequences of a default.
While we assume that any missed payments will eventually be
made, the impact of missed payments on the broader market for
Treasury securities may impact the price of Treasury
securities, which could impact the value of collateral held at
clearinghouses and central counterparties. Further, it is
entirely possible that for purposes of any escrow, collateral,
or margin agreements involving such securities, the defaulted
securities could be deemed non-eligible and subject to
replacement, resulting in a drain of liquidity.
Since filing our written testimony just yesterday, market
participants have continued to meet and review enhancements
that could mitigate operational risks that have been
identified, particularly in the repo market. It is important to
avoid disruptions in the Treasury repo market, and market
participants continue to review ways to improve overall
resiliency.
Treasuries are the world's safest asset and the most widely
used collateral for both risk mitigation and financing.
Shrinkage in the financing market would further pressure rates
as haircuts or discounts on Treasuries would increase--raising
costs, reducing the financing capability, and disrupting
collateral markets because of margin calls throughout the
financial system that would reflect the overall repricing of
Treasury collateral.
Given the significant uncertainty surrounding a failure to
pay, market participants and SIFMA have developed a playbook
this is intended to provide key market participants and service
providers a forum to share information about the latest
developments including decisions from the Treasury, the
Administration, and Congress and the status of the
infrastructure and settlement providers. Of particular concern
to market participants is an early indication from Treasury
that securities will be extended and whether processes are
being--or can be--delayed. It is important for the market to
know as early as possible if Treasury intends to extend the
payment date of any due interest and principal. Treasury
securities are traded in a global market with the global
trading day beginning in Asia at 8 p.m. Eastern Standard Time.
Market participants normally run their own internal processes
prior to the Asia open in order to provide a clear cutoff to
reflect positions on their books and records. Failure to
provide early indications of intention could further obfuscate
positions and could cause trading confusion in the Asian
markets. The disruption to pricing and trading behavior is
impossible to predict.
U.S. debt obligations are the currency of the global
financial markets and the real economy, and their soundness
should not be questioned. No amount of planning can anticipate
all the potential consequences of a default. Short- and long-
term consequences to the taxpayer can be anticipated, but the
further limits on the ability to transfer, sell, finance, and
post as collateral defaulted securities would only serve to
undermine investor confidence and hurt our fragile economic
recovery. SIFMA and its member firms have frequently called on
Congress and the Administration to work together to put our
fiscal house in order, but unnecessarily triggering a voluntary
default will result in dramatic, and possibly permanent, damage
to our economy and markets in ways both anticipated and
unanticipated and must be avoided.
Again, SIFMA appreciates the opportunity to testify today,
and I look forward to answering your questions.
Chairman Johnson. Thank you.
Mr. Thomas, you may proceed.
STATEMENT OF GARY THOMAS, 2013 PRESIDENT, NATIONAL ASSOCIATION
OF REALTORS'
Mr. Thomas. Thank you. Chairman Johnson, Ranking Member
Crapo, and Members of the Committee, on behalf of the 1 million
members of the National Association of Realtors',
whose members practice in all areas of residential and
commercial real estate, thank you for the opportunity to share
our concerns about the potential economic consequences of not
raising the statutory limit on our Nation's debt before the
limit is breached.
I am Gary Thomas, President of the National Association of
Realtors'. I have more than 35 years of experience
in the real estate business, and I am the broker-owner of
Evergreen Realty in Villa Park, California.
It is no secret that real estate is a cornerstone of our
Nation's economy, representing roughly 18 percent of our
Nation's gross domestic policy. As the housing market has
recovered from the Great Recession, it has substantially
contributed to our Nation's economic growth, especially since
2011. Home sales, housing prices, and residential construction
are all on the upswing.
For example, home sales were 13.2 percent higher in August
2013 than a year earlier, with 5.48 million homes sold. Home
prices have increased 15 percent, pushing up the value of
household real estate to $18.6 trillion at the end of the
second quarter of this year. These key housing indicators have
been supported by low mortgage rates and improved consumer
confidence.
With that being said, the housing market has not fully
recovered. Maintaining momentum in the housing market is
particularly crucial right now. The housing recovery could
stall if the debt limit is not addressed. A default or even the
perceived threat of a default could undermine the distinct
economic advantage that has taken us centuries to build,
undermining our financial stability and raising costs today and
for generations of Americans to come. It is impossible to
predict the exact economic impact in the event our Nation is
unable to pay its creditors. However, the significant economic
disruptions that resulted from the 2011 debt ceiling impasse
provide a useful guide. Financial market disruption, reduced
consumer and business confidence, and slower job growth all
happened when the debt limit was not increased until the very
last minute.
In the event of a default, a series of events would occur,
causing a domino effect, resulting in higher mortgage rates and
increasing the cost of buying a home. Historically, an increase
in the mortgage rates of 1 percentage point reduces home sales
by roughly 350,000 to 450,000. This would wipe out any increase
in home sales predicted in 2014. A decline in home sales would
also have a broader impact on our national economy. Roughly
700,000 to 900,000 fewer jobs would be created as a result of a
1-percentage-point increase in the mortgage rates.
As a selling broker, I want to bring this down to a
personal level to highlight the impact on my clients. For a
borrower earning $60,000 a year and taking out a $200,000
mortgage, that 1-percent increase would raise the monthly
principal and interest payment by nearly 10 percent. Any
decrease in a consumer's disposable income has broad economic
ripple effects. Higher mortgage rates and lower consumer
confidence are both likely to follow in the event of a default.
Again, if we look back to the debt ceiling debate of 2011,
consumer confidence plummeted 22 percent following the impasse.
Thankfully, our economy has been able to bounce back from the
2011 debt ceiling debate. But the impasse prolonged the housing
downturn. The result is the real estate market did not begin to
turn around in earnest until 2012.
As the housing market heals, mortgage rates have increased
from historically unprecedented lows. Moreover, meager
increases in family income have squeezed the affordability of
homes. Affordability has plunged 18 percent to the lowest level
since 2006. With consumer sentiment already facing headwinds
from rising interest rates, the recent Government shutdown will
likely be an additional blow to consumer confidence and our
economic recovery. U.S. economic expansion will be even more
susceptible to the adverse effects from a debt ceiling impasse.
We have already experienced the negative economic
consequences from even the prospect of a default during the
debt ceiling impasse of 2011. Let us not repeat this mistake
again. More importantly, let us not allow a debt limit impasse
lead to the United States defaulting on its debt.
Thank you for the opportunity to share our thoughts, and we
look forward to working with Congress and the Administration on
efforts to address the challenges still facing this Nation's
housing market and overall economy.
Chairman Johnson. Thank you.
Mr. Stevens, you may proceed.
STATEMENT OF PAUL SCHOTT STEVENS, PRESIDENT AND CEO, INVESTMENT
COMPANY INSTITUTE
Mr. Stevens. Chairman Johnson, Ranking Member Crapo,
Members of the Committee, thank you for the opportunity to
appear before you once again.
I am pleased to have the opportunity to testify on behalf
of the Investment Company Institute, its member funds, and the
90 million American investors that they serve. Today members of
ICI manage in excess of $15 trillion in total assets.
Funds and their investors have a very significant stake in
the stability and predictability of the market for U.S.
Treasury securities. The most recent ICI data show that, as of
June 30, registered funds held more than $1.7 trillion in
securities issued by the Treasury and by U.S. Government
agencies. That accounts for more than 10 percent of fund
assets.
Now, U.S. Treasuries, as the Committee knows, trade in the
deepest, most liquid market in the world. Treasury securities
have always been regarded as providing the ``risk-free rate of
return,'' a key factor in pricing other assets, including
corporate and municipal bonds, stocks, and real estate.
But today that notion of the risk-free rate is in serious
jeopardy. Today Washington, the Federal Government, is itself
the single greatest source of risk to the global financial
system.
The immediate threat to financial stability is, of course,
the looming stalemate over the Federal debt ceiling, but we
must not lose sight of the longer-term hazards our Nation faces
if we fail to take decisive action to contain the growth of our
national debt. After all, there are two things that
individuals, households, businesses, or nations must do to
maintain a high level of creditworthiness: they must pay their
bills on time when they come due, and they must avoid taking on
more debt than they can reasonably afford to service and to
repay.
For our Nation, ignoring either of these principles will be
ruinous. A Treasury default likely precipitates a sudden crisis
and a degradation of the United States' financial and economic
standing. But failure to bring our debt under control will be
equally destructive and on current trends is even more likely.
What makes the Treasury market so deep and so liquid is the
certainty of investors that the U.S. Treasury will pay its
obligations, on time and in full, when interest or principal
comes due. One Treasury misses or delays a payment, investors
will learn a lesson that cannot be unlearned: Treasury
securities are no longer as good as cash.
The future risk of missed payments will be priced into the
interest rates that investors demand. We already can see early
signs of these concerns developing in the market as the October
17th deadline approaches. And should the Treasury default, the
effects would quickly spill beyond the Treasury markets and
into the broader economy. Multiple shocks--cash shortfalls for
holders of defaulted Treasuries, higher interest rates,
diminished confidence, and pressure on the dollar--would be
likely to undermine economic activity. The impact would persist
well beyond any resolution of the debt ceiling and repair of
the default.
Now, let me stress that default is by no means uniquely a
problem for mutual funds or other registered investment
companies. Nothing about their structure makes them any more
vulnerable than any other investment vehicle. Because the
health of the Treasury market underpins virtually all financial
markets, the damage of a default--or even of a second near miss
in a little over 2 years' time--will be visited upon every
American who saves, invests, borrows, or has any stake in the
economy.
Now, with our focus on the debt ceiling, it is easy to lose
sight of the other looming risk: the unsustainable long-term
growth in our national debt. The tax and spending bargains
reached so painfully in the last 3 years have slowed the growth
of debt for the short term. But the Congressional Budget
Office's latest projections show that that progress will be
short-lived. By 2018, the debt held by the public will be
rising as a share of GDP. By 2038, under current law and
budgetary policies, Federal debt held by the public will reach
108 percent of GDP.
Now, these scenarios and our long-term debt trends do not
promise a bright future for the economy or the Nation. So I
have two unequivocal messages today.
First, no one should take lightly the prospect of a default
on United States debt obligations. The credit of the United
States emphatically must not be put into question.
Second, those who dismiss or minimize our current budget
problems are also playing with fire. The risks they are taking
may be less immediate, but they are no less consequential; and
the longer the Nation delays action, the larger and more
difficult the necessary corrective measures become.
Thank you, Mr. Chairman. I look forward to your questions.
Chairman Johnson. Thank you all for your testimony.
We will now begin asking questions of our witnesses. Will
the clerk please put 5 minutes on the clock for each Member?
This question is for the full panel. No matter where you
stand on fiscal issues or even health care, should Congress
seriously entertain a default on our debt? And what do you
believe is the most troubling long-term impact if the United
States does not pay its bills on time? Mr. Keating, let us
start with you.
Mr. Keating. Well, as noted by my fellow panelists, if the
United States defaults on its debts, a little bit or a lot is
calamitous. And we have to think in perspective what has
occurred over the course of the last number of years. From
1789, when George Washington became President and our Republic
was established, to the year 2000, the national debt was $5
trillion. According to the Bipartisan Policy Center, our
Rivlin-Domenici panel, between 2000 and 2009, that national
debt roughly doubled, a little bit less than doubled. Now it is
going to double again.
So the figures are scalding, and I am sure that the
congressional panel as well as Simpson-Bowles--and I know
Rivlin-Domenici found the same thing. In the year 2020, it will
be $1 trillion a year just to pay the interest on the debt. By
the year 2025, every cent of Federal tax revenue will go to
Social Security, Medicare, Medicaid, and interest on the debt.
What is required, as noted, is to get through the default
period because it will obviously dramatically raise interest
rates and create real havoc in the community bank environment,
most particularly, the ability to borrow money and to lend
money, and then sit down aggressively and in a bipartisan
fashion to focus on this runaway train.
In 1950, the average person retired at 62 and died at 69,
or 65 and 69. Today the average person retires at 62 and dies
at 80. So all the actuarial tables are off. We are, mercifully,
living a lot longer, which is causing huge stresses in our
ability to provide for the elderly in the United States, and it
will continue to deepen and darken over the course of the next
20 years.
Chairman Johnson. Mr. Bentsen?
Mr. Bentsen. I would say two things. One is voluntarily
defaulting on the debt is just something that to me does not
make any logical sense. It will create huge operational
problems in the financial markets that will permeate across the
markets. As pointed out, Treasuries are a reference rate.
Treasuries are used in escrows. It will affect municipal bond
issues that have been defeased by every State in the Union. It
will have dramatic consequences on liquidity and could create
certain liquidity crises if it were to go on for some period of
time, even with potential work-arounds to deal with defaulted
coupons.
But the other thing I would say is, with respect to the
long-term fiscal condition, to default voluntarily would make
resolving the long-term fiscal imbalances just that much more
difficult. So it seems to me that it does not make any sense to
do so if you do not have to.
Chairman Johnson. Mr. Thomas.
Mr. Thomas. From the real estate perspective, I think that
we would fall back into a deeper recession. There is no doubt
in my mind that that would happen. If we reached a debt ceiling
impasse, the default on U.S. debt could be very long lasting.
Interest rates would undoubtedly rise, meaning less people
could afford to buy or refinance homes. Housing prices would
plummet again, and you would have a catastrophe in the real
estate industry, which would lead the economy back into a deep
recession, if not a depression.
So it also raises the rate at which we would borrow and
would make it more difficult for us to meet our debts on into
the future. So I do not see any possibility of it being a good
outcome. It is going to be disastrous.
Chairman Johnson. Mr. Stevens.
Mr. Stevens. Mr. Chairman, I think the key element here is
confidence. We are the biggest borrower in the world. We have
to engender confidence in those people who are lending us
money. The Treasury's history of repayments and the smooth
operating of the Treasury market has created that high level of
confidence that permits us to borrow at very, very low rates.
I do not think it is in the interest of the American people
to do anything to give our investors less confidence in the
United States, and that would include either failing to repay
or, as I said in my testimony, amassing so much debt that it is
not going to be supportable.
Chairman Johnson. Mr. Stevens, some in Congress have
proposed that payments to bond holders should be prioritized in
the event of a default. Is this a workable, long-term solution?
Mr. Stevens. Well, to go back to my previous answer, I
think it to some degree misses the point. If you are a
household and you are depending upon the bank for continuing
financing and the bank learns that this month you are going to
decide to pay these bills but not those bills, it does not
engender greater confidence in the bank to continue to lend you
money. And that is the key point. The money that you are lent,
if you are lent any, is going to be much more expensive, and it
makes the hole that you are in just that much deeper.
Chairman Johnson. Senator Crapo.
Senator Crapo. Thank you, Mr. Chairman.
I want to come back to basically what I talked about in my
opening statement, which is the fact that while we debate the
consequences and the circumstances surrounding the debt ceiling
battle we are having in the Senate and the House right now, the
real issue that we need to be focused on--and I agree with all
the comments about the seriousness of the consequences that
would occur if we do not pay our debts. I understand that. But
it seems to me that the real threat of default that the United
States is facing is the debt crisis that we are facing.
I look back--I mean, we all know that one credit rating
agency has already downgraded the United States, the good faith
and credit of the United States. They did not downgrade it over
a debt ceiling. They downgraded it because they lost confidence
that we are willing to deal with our debt. And that is the
issue that I believe we need to focus on.
CBO has recently stated that if we continue our current
path, at some point investors would begin to doubt the
Government's willingness or ability to pay U.S. debt
obligations. I think at some point--and I think some point
soon--another credit rating agency is going to become convinced
that we will not deal with our debt crisis.
And so the question I have to the panel is: Is the threat
of default that each of you have talked about, default on our
U.S. Treasury obligations, is that threat greater because of
the fight we are having in Washington right now over whether
the debt ceiling will be extended? Or is it not far greater
over the fact that we cannot get into negotiations to resolve
our entitlement spending and to reform our Tax Code?
Mr. Stevens, I know you mentioned this in your comments, so
let me start with you on this end.
Mr. Stevens. Well, Senator, as I said in my oral statement,
I think creditworthiness depends upon two things: it depends
upon paying your bills on time, and it also depends on not
racking up so much debt that you cannot support it. And so it
is a combination of the two things. I do not think you can have
one without the other if you really want to maintain a good
credit rating.
Senator Crapo. Mr. Thomas?
Mr. Thomas. I would agree. I think you have to attack both,
but you have to do it in a deliberate manner that does not
upset the international marketplace. So I think we have to deal
with the debt ceiling first and then go on to really the
looming question, the elephant in the middle of the room, and
that is the entire debt.
Senator Crapo. Mr. Bentsen?
Mr. Bentsen. Senator, the two are certainly linked, but it
seems to me that, just as you would if you were going through,
say, a corporate restructuring, if you were going to go through
a fiscal restructuring of the United States to repair fiscal
imbalances over the long run, you are still going to need to
access the credit markets and the capital markets to do so. And
so you would not want to do anything that impairs your ability
to access the credit markets to get on a glidepath wherever the
policymakers want to take fiscal policy.
So while I do think they are linked, no question, and they
both need to be resolved, you do have one that is in front of
the other. And so I think you want to be careful not to make
the longer-term job any more difficult by not addressing the
short-term issue.
Senator Crapo. Mr. Keating?
Mr. Keating. Well, I agree with Ken Bentsen. There are two
issues, but they are interlinked. In the case of, let us say,
for me as a community banker, if you came to me and you said,
``I would like to borrow some money, but I am not sure I can
pay it back,'' I assure you that the interest rate would be
considerably higher, if I made the loan at all. If you said,
``I will not pay it back,'' or ``I have not paid back my other
loans,'' I would not make the loan at all.
So that is a reality that faces families, and that is a
reality that faces the United States. But a big part of our
debt, the reason we cannot pay our bills or the reason we will
not pay our bills is entitlements. So they are linked together,
and as I said, mercifully, our families are living longer, but
that is a huge actuarial challenge that we have not prepared
for.
Senator Crapo. Thank you. I am not going to ask another
question, but I will conclude with a comment, and that is, I
understand the linkage. There is another aspect of the linkage
here. We just had a hearing about an hour ago with Secretary
Jack Lew, Secretary of the Treasury, and in my questioning of
him, I asked him whether or not the real threat we faced was
not the long-term debt crisis and that that was a greater
threat to our creditworthiness. And in his answer to me, he
said, you know, we have been making some progress on our long-
term debt crisis over the last couple of years. He admitted
that we have not touched entitlements, have not touched tax
reform. But he said, you know, we have in the last couple of
years started to make some progress.
I pointed out to him and I will point out to you, that
progress came in 2011 when we were fighting over a debt ceiling
increase and we adopted the Budget Control Act, which put into
effect our ability to deal at least with discretionary
spending. And although we can argue over whether that was done
well or whether it could have been done better, the fact is
that that debt ceiling increase was accompanied by some fiscal
reforms, and that is what we are trying to achieve here today.
Chairman Johnson. Senator Reed.
Senator Reed. Thank you very much, Mr. Chairman.
Mr. Bentsen, if we default next week, even technically,
your view, I believe, is that that will make our ability to do
almost everything, including deal with the long-term
entitlement problem, much more difficult. Is that fair?
Mr. Bentsen. Yes, Senator. I mean, first of all, we are
already seeing--and you commented on this in your opening
statement, we are already seeing a risk premium being priced
into the market today. So the short end of the Treasuries are
up 30 basis points. It was a dramatic shift. Repo pricing is--
the haircuts of repos are going up. So the pricing effect is
already taking effect--is already happening. If we miss a
coupon, we would assume that that pricing effect will be
exacerbated on that.
But the other thing that we think would happen--and, again,
our members are working to sort of war-game this out because no
one has ever been through this, the documents are not
structured for this, systems have never been set up for this.
No one has ever thought that you would not pay Treasuries in
the same way you would with a corporate debt offering or
municipal debt offering. And while there are efforts being made
to see if we get notice from Treasury that a coupon payment
will be missed and extended to another day, how do you keep
that Treasury security with the missed coupon payment
transferable or pledgeable as collateral? You know, it is not
entirely clear. We think that if it is done quickly and before
the Asian markets open, it is possible. But you still have that
coupon that is pulled out of the market, so there is some
liquidity associated with that, and it is not clear when that
would be paid. It is not clear whether it would be paid just
through the stated interest date or whether interest would
accrue. So you have potential lost income.
And then if it is not clear whether those securities are no
longer considered eligible collateral, what chain effect might
occur, not just with ability to do a repo transaction, but
whether or not if they are in a municipal defeasance escrow,
whether they are pledged as collateral for swaps or any other
type of transaction, whether counterparties would ask for
replacement or whether escrows would have to be restructured.
So it has a friction that can run across many parts of the
market, and we think it would have a very negative effect.
Senator Reed. In effect, what you are describing is a
potential financial meltdown, perhaps worse than in 2008 with
the collapse of Lehman Brothers, which required massive support
by the Federal Government just to restore confidence and
stabilize the Government. And, frankly, I do not know if that
combination of factors today and the political forces here
would be able to support such an effort. But, you know, you
raise an excellent point, which is that everyone might have
very good intentions of trying to manage through this crisis,
but software systems, documents, legal requirements,
uncertainty would be such that you could really paralyze the
market. Liquidity could freeze, and you would have something
that would make 2008 look like a walk in the park.
Governor Keating, again, I think your comments about the
impact of this--and sort of proportionality, that, you know, we
are looking at a crisis that could trigger, ironically, worst
deficit complications that could exacerbate those long-term
trends even more dramatically as interest rates go up in
response to uncertainty. But you have, I think, a particularly
valuable point of view, representing bankers all across the
country. The impact on Main Street, I mean, one of the issue
with prioritization Senator Brown mentioned was we are not
prioritizing between paying Federal debt and trivial expenses
of the Government. We are talking about Social Security
payments, Medicaid payments to States; States basically could
start running into their own complications. And you were a
Governor. If you were told by HHS that no Medicaid payments are
going in, what do you do? Are you on the hook for it? What do
your hospitals do? Do they declare bankruptcy because their
covenants require that they receive a certain amount of income
each month? In some cases, yes.
Then we go down to Social Security benefits payments. Are
we telling Social Security recipients that they are going to
take a 5-percent haircut because we are going to pay debts or
credit? And, frankly, as I read--you know, all of these
constitutional advocates, as I read the Fourteenth Amendment,
it does not make any distinction between types of debt. It says
the ``public debt.'' And all this would be, I think, construed
as public debt.
So can you tell us on the street what your impression would
be?
Mr. Keating. The lay community, lending community, the
borrowing community, the community banks, and even the large
institutions that I work for are very alarmed because of the
uncertainty, because of the panic, because of the potential for
long-term destructive results. So if I were Secretary of the
Treasury, if you were Secretary of the Treasury, and we had so
many dollars, you would say, well, are we technically in
default if we do not pay Social Security? I do not know. But I
know we are technically in default if we do not pay all these
bonds. So we have got to pay the bonds, and then we have got to
continue to pay the bonds, the investments, the debt of the
United States, you know, the coupons on Treasuries.
But then what? At some point, you are going to run out of
money. At some point, because of the fear in the marketplace,
there will be less lending, there will be less borrowing, there
will be less buying, there will be less tax revenue. And you
are trying desperately to figure out who do you pay first.
Well, of course, I would try to figure out who do I pay first.
In that desperate situation, I think most of us would do that.
But that is a crazy way to run the greatest economy the world
has ever seen.
I mean, in the history of the United States, it was after
the Revolution that we had a very hard time--that is when
Robert Morris, you know, the financier of the Revolution, made
it very clear: We are not going to be able to pay our bills if
we do not have access to credit. Otherwise, they are going to
demand everything in specie; you better have gold and silver;
otherwise, you know, nobody will deal with you. That was just a
calamity about to physician, and we never defaulted, even in
those days when we did not have anything.
And here we are, the world's largest economy, and we are
seriously contemplating that as a sensible, intelligent
reaction to a political stalemate. Well, I hope not because it
would--you know, when the United States--as I used to say in
Oklahoma to my Democrat friends, if the USS Oklahoma goes down,
we all go down together, Democrats and Republicans. If the USS
United States goes down, we all go down together, Democrats and
Republicans.
Senator Reed. Thank you.
Chairman Johnson. Senator Vitter.
Senator Vitter. Thank you, Mr. Chairman, and thanks to all
our panelists. I know all of you agree that the debt limit
should be extended because disruption would occur otherwise. I
understand that. But I do think it is important to be precise
about what we are talking about and what we are not talking
about.
For instance, Senator Reed started his comments saying,
``If we default next week,'' so I sort of want to pick it up
there. By default, am I correct, we mean nonpayment or late
payment on U.S. Government securities. Is that right?
[Witnesses nod affirmatively.]
Senator Vitter. Does anybody disagree with that? That is
what ``default'' means. And in light of all of your testimony
about the impact of that, would you all agree that if the debt
limit were not extended immediately--and I understand that you
think it should be. If it were not, those payments should be
top priority. Does anyone disagree with that?
Mr. Stevens. Senator, I would respond this way: I do not in
a sense disagree with what you are saying, but the premise is
that there are other payments that are not going to be made.
And I would just revert to what I had said. The effect of
confidence in the Treasury markets will be significant even if
we are paying off those Treasury securities. Even if we do not
have a late payment of principal, even if we keep our interest
rate payments current, if we are failing, if we are choosing
and picking what other obligations the country has, that will
be felt in the market even though you could say, well, those
securities are not technically in default.
Senator Vitter. I understand. I am not trying to trivialize
this scenario. But I am trying to be more precise, because I
think there has been a lot of loose language that actually is
causing more premature disruption than necessary. So would
anyone not prioritize those payments?
Mr. Bentsen. Senator, what we have been told by the
Treasury Department is that they do not have the operational
capability to prioritize. I think that they make something
like, I want to say, 4 million payments a day. And there is a
question as to whether or not they can prioritize on that.
But the other point I would make is if you--it is not clear
what revenues are coming in, and everybody tries to estimate,
Treasury tries to estimate, market observers try to estimate.
But on the 17th, you have about $129 billion in T-bills coming
due; the next week you have about $93 billion in T-bills coming
due; the following week you have principal and interest payment
on bonds coming due, and every week thereafter.
So the point I would make is perhaps they could figure out
how to do it operationally. I do not know their systems. That
is just what they tell us. But there is a lot of debt coming
due. Some can be rolled, some cannot be rolled because it would
breach the debt limit. And so it does create quite a----
Senator Vitter. Well, to respond, Treasury has two systems:
one is for payments on security obligations; one is for
everything else. I think your comment is possibly accurate
about the second system for everything else. But there is a
separate system for payments on security obligations. I do not
think there is any question that they can pay those first if
they want to.
I am just suggesting that in a bad scenario that should be
a priority. It can be a priority operationally. And if it were,
those would be paid, and I do not think there is any question
about revenue coming in covering it. I mean, for instance,
Martin Feldstein has said, ``There really is no need for a
default on the debt, even if the debt ceiling is not raised
later this month. The U.S. Government collects enough in taxes
each month to finance interest on the debt.''
Now, again, I am not trying to trivialize this scenario,
but I do think it is important to talk a little precisely about
what we are talking about and what we are not talking about.
And I do not think it is accurate to talk about if we default
next week, because I do not think there is any need, any chance
of defaulting next week.
Does anyone disagree with that, defaulting on payments on
Government securities?
Mr. Thomas. Senator, I agree with you; however, let me tell
you what is happening at the street level. The confidence of
our buyers and sellers is waning very rapidly. We have
transactions canceling right now. We have people not being able
to get loans. We cannot get beyond where we are at. It is going
to go backwards very, very fast.
Yes, you could probably mechanically do all of this, but
the confidence of the American people is going to be really in
the toilet. I am sorry.
Senator Vitter. Mr. Thomas, let me pick up on another
comment of yours. In your testimony, you sort of bemoaned this
episode in 2011 over the debt limit, said it was very
disruptive; you know, we have recovered but it was disruptive.
As Senator Crapo pointed out, that episode led to the BCA,
led to the only spending and debt cuts in the recent past. Do
you consider that positive outweighed by that episode?
Mr. Thomas. If nothing else would have happened after that,
then, yes, I would agree with you. If we did not have to come
up to it and still had the same outcome by negotiating
separately and got to the same point, then we would not have
had a fall-off of the confidence at that time.
Senator Vitter. Well, I will just end with this. I can
guarantee, as somebody who was here and participating, that
that would not have happened but for the deadline of the debt
limit. I mean, no way, no how it would have happened. So I just
want to underscore Senator Crapo's comment. There was what in
my view is a distinct positive coming out of that, which is the
only progress we have made on spending and debt in the recent
past.
Chairman Johnson. Senator Menendez.
Senator Menendez. Thank you, Mr. Chairman. I almost think
we are in a surreal conversation.
Let me ask the first question of this panel. Understanding
your collective concerns and our collective concerns on the
question of debt, is there any member of the panel who
advocates as a way of reducing debt defaulting on the Nation's
full faith and credit?
Mr. Keating. No.
Mr. Bentsen. No.
Mr. Thomas. No.
Mr. Stevens. No.
Senator Menendez. All right. Second, when we talk about
this concept about prioritizing, I think Americans should
understand that that suggestion means that we would make sure
we would pay China, Japan, Caribbean banking centers, Brazil,
but we would not maybe get to paying Americans who rely on
Social Security and Medicare, as well as the concept that for
anyone who is a banker or anyone who works under the concept
that if I make a loan or I make an investment, some will be
paid and some will not, and so I was fortunate this time to be
paid, but in the future I may not be fortunate to be paid. And
the consequences that flow from that are inevitable.
In that respect--and then, finally, to suggest that the way
to reduce debt was the Budget Control Act--which I voted
against because I did not see the willingness to include
revenue as well as spending cuts, and I believe both must be
achieved. But to have across-the-board cuts that the Chairman
of the Joint Chiefs of Staff that, if it continues, will
threaten the ability of the Defense Department to meet the
challenges globally on multiple fronts, that really means that
threatens the national security of the United States, where my
colleagues go back to home to their State and rail against the
consequences of sequester, even as they vote for it here, it is
surreal.
So my question is--Governor Keating, you mentioned in your
testimony--and I think this is an important point to realize.
If you could give us a sense, again, you know, just the
potential for default, not the default itself but the potential
for default actually cost taxpayers money. By waiting until the
last minute to act and threatening to default, they cause
investors and U.S. Treasury securities to demand higher
interest rates. If I am going to look at greater risk, I am
going to demand higher interest rates to offset the risk.
Now, is it right that I read in your testimony that as a
result of what happened in 2011 or the threat of default that
it cost us $1.3 billion in fiscal year 2011?
Mr. Keating. Well, I think the Bipartisan Policy Center's
estimate was a $20 billion figure as a result of coming to the
edge of the cliff and stepping back.
Senator Menendez. Over the course of 10 years, yes.
Mr. Keating. Right. Now, if you stepped over the cliff, the
impact would have been and will be, obviously, far more
uncertain, but most likely far more catastrophic.
Senator Menendez. So $20 billion just for moving up to the
deadline and not crossing over it, but $20 billion. So I do not
understand how it is fiscally responsible for those who are
driven fiscally to ultimately suggest that having the Nation
cost $20 billion and not--and waiting until the last minute to
meet its obligation is fiscally responsible.
I also want to ask Mr. Bentsen, I understand a large share
of the financial markets use Treasury securities as a benchmark
for evaluation and pricing or as collateral in a wide variety
of transactions. How would a default affect the market
functionality in these basic areas?
Mr. Bentsen. Well, Senator, I guess there are two things
that you raise there. Treasury securities are a reference
security, so mortgages, credit cards, auto loans, pricing on
swaps, it is used across the financial sector both in the
consumer and in the institutional or wholesale market. So if
you are affecting prices of Treasuries, particularly short-term
Treasuries, you are going to affect the price of those
instruments, and that will pass through to the end users of
those instruments.
The second point would be that the repos and the like are
used not just in financing between financial institutions and
one another, but, for instance, municipal issuers, when they
issue, do their initial debt pricing and debt offering, will
often use repos in the short-term basis to invest their money
before they put that money to work, whether it is building a
road or a hospital, whatever they are doing for it.
So, again, it is used across the financial system quite a
bit, and they would be affected by the price and the risk and
over the long-term concerns about counterparty risk.
Senator Menendez. Thank you, Mr. Chairman.
Chairman Johnson. Senator Heller.
Senator Heller. Mr. Chairman, thank you, and thanks for
holding this hearing, and to the Ranking Member also and to
this panel. Thank you very much for taking time to be here
today. I think this is as critical of a hearing as we can have
at this date and time.
I was listening to an economist on TV this morning, and he
talked about a lack of humility, honesty, and civility, but he
was not talking about Congress. But he should have been--or he
could have been. I look and watch what is going on here in
Washington, D.C., and I think we do need a humble, civil,
honest conversation about why we are here and why we are having
the conversation today.
We are here because we have not passed a budget here in
Washington, D.C., in 5 years. That is why we are having this
conversation. We have not passed an appropriations bill, not a
single appropriations bill, in 5 years. I have not been here
that long, but, boy, I certainly have not seen this process
move. We now think CRs is the norm, that a continuing
resolution is the norm. And I have staffers that have been here
long enough that would tell me and have told me that this place
would freak out under those scenarios years ago. But there are
a lot of people here that I think perhaps have not been here
since the last time we actually passed a budget or passed
appropriations, and that is why we are here. That is why we are
here, because we do not budget. We have no financial
responsibility in thinking that that is actually a good thing
to do.
We are also, you know--and I am not telling you anything
you do not already know--$17 trillion in debt--$17 trillion in
debt and we want to add another $1 trillion to it. That is why
we are here, because we think $1.1 trillion is OK. Add
another--after $17 trillion.
And, by the way, it does not end there. We are another--I
do not know--$30 to $50 trillion in unfunded liabilities. And
that is why we are here. That is why we are having this
conversation, because we cannot control ourselves. We cannot
control that. And I think that is a very honest conversation
that this Committee and this Congress needs to have.
We go back to Nevada, and Nevada is hurting. I do not know
that I have to tell you this, but you know we are highest in
unemployment--everybody has heard me say this--highest in
bankruptcy, highest in foreclosures. We are in tough shape. I
just got a letter here from the Governor, and he was talking--I
think some of you may know about this, about how tough this
shutdown is, has been, and will be for the State of Nevada,
programs like child nutrition programs, SNAP benefits,
unemployment insurance, dozens of other programs, and he says
this undermines the economic security of Nevadans. I agree with
that. And a default, that is due to an economic--that is due to
a shutdown. A default would make matters even worse. And I am
concerned. I am concerned about the direction that this country
is going and obviously the effect that it has on my own State.
If I can ask the Governor a question, you said that when
you were Governor--and I hope it is fair to say you did a good
job. And you said both Houses were Democrat at the time. Under
what circumstances did you tell the leaders of the other party
that you would not negotiate or you would not compromise? What
were the scenarios that you had that would make you say that?
Mr. Keating. Well, I come from a very bipartisan
background. My grandfather was a Congressman-at-Large from
Illinois, a Democrat. In Oklahoma, when I was in the House and
Senate, Republicans, they sought us out with flashlights on
Sunday nights. And as Governor, the legislature was
overwhelmingly Democrat, but I had Oklahoma and Oklahoma State
University economics departments examine why we were poor, and
they came back and said you do not have Right to Work, the
trial lawyers run this place, workers' comp is too expensive,
the kids do not take hard enough courses in school, you have
got a personal and corporate income tax, and you need to
address that, the two economics departments of our
universities.
So I sat down with the pro tem and the speaker and said,
``Here it is. This is not the Heritage Foundation.'' And we
went through every one of those things, even a right-to-work
vote in the constitution successfully, and got it all done, I
mean together, because as I said, if we crashed and burned,
Texas would laugh at us.
[Laughter.]
Mr. Keating. And, you know, who in the world would want
that to happen? And I do not think the analogy to the Federal
Government is misplaced.
Senator Heller. Mr. Stevens, you talk about confidence, and
I want to stick to confidence for a minute. What sense does it
make to raise the debt ceiling and yet do so without any
structural changes to this Government? Can you have confidence
with just raising the debt ceiling?
Mr. Stevens. I think there needs to be high seriousness
about both of them in the near term to deal with that because
it would be a hugely self-inflicted wound, but there needs to
be very promptly attention to the longer problem, because as I
said, they are linked in terms of what creates and builds
confidence in the millions of people, thousands of institutions
that we turn to to help finance the United States.
Senator Heller. Thanks for your time.
Mr. Chairman, thanks for allowing me to vent some of my
frustrations.
Chairman Johnson. Senator Brown.
Senator Brown. Thank you, Mr. Chairman.
I was in the House of Representatives a dozen years ago
with Congressman Bentsen and others when we got to a balanced
budget with a budget surplus. Then looked what happened in
2001, 2002, 2003, and 2004--an unpaid-for war, tax cuts that
went overwhelmingly to the wealthiest people in this country, a
Medicare benefit that was, shall I say, generous to the drug
and insurance companies--and this budget surplus, the largest
surplus in history, went to the largest deficit in history. So
lectures about our big spending when some of us opposed a
number of those actions is not necessarily welcome, but more
importantly, never during that period did any of us say, well,
if you do not stop this war or if you do not do this, we are
going to shut the Government down or we are going to not honor
our debts and obligations.
You know, I appreciate Senator Heller saying that we need
to do some of both, but first we need to pay our bills. And
this is not running--this is not accruing war bills by passing
a clean debt ceiling vote. It is paying the things that we--it
is the American way. You pay your bills. And it is just so
clear, and that is what pretty much everybody on this panel
said.
Let me talk about one issue in particular. I was downstairs
2 hours ago listening to Secretary Lew at the Finance
Committee, and he said, ``Every Thursday, we roll over''--and
he actually said this in September, and I asked him about it.
But he said in September, ``Every Thursday, we roll over
approximately $100 billion in U.S. bills. If U.S. bond holders
decided that they wanted to be repaid rather than continuing to
roll over their investments, we could unexpectedly dissipate
our entire balance.'' You know, it is really--like he said this
morning, when I asked him about that, failing to roll over the
debt would put us in a situation where we would be like a
homeowner who 1 month has to pay the entire mortgage off
instead of the monthly payment. And, obviously, Mr. Thomas
gets--he is the one nodding the most vigorously of the four of
you. Effectively the U.S. Government could face the same kind
of funding crunch that Lehman had in 2008, the parallel's
there.
So my question is: You know, this discussion of
uncertainty, and the uncertainty in our economy has always been
there to a point, but never as endemic or as penetrating as
this uncertainty we are facing this week and next week.
Talk to me about this uncertainty. What do you think will
happen if--you know, there is a debate on the 17th and all of
that, but we do know that the 17th, because it is a Thursday,
it is possible we could experience something that Secretary Lew
alluded to, suggested. What do you think will happen or--each
of you, what do you think will happen, or do we throw up our
hands and really just not know what will happen come Thursday
when this $100 billion is rolled over, connected or not to the
actual debt ceiling?
Do you want to start, Mr. Stevens, if you would, and go
from there?
Mr. Stevens. I appreciate all of the contingency planning
and analysis that has gone into the what-ifs here. But,
Senator, we should all be aware. We are in terra incognita. We
really do not know what the impact would be. There will be lots
of individual decisionmakers as holders of Treasury securities
that would enter into whether we are able to roll our bills the
next Thursday or what the rate would be that they are willing
to lend us money at, and all of the knock-on effects. And that
assumes, frankly, a fairly short duration default, if you will,
or whatever the temporary measures are that are taken to avoid
a technical default.
If we entertain this idea over a longer period of time, I
think there is no question but it will be cataclysmic.
Senator Brown. Thank you.
Mr. Thomas?
Mr. Thomas. Yes, I think the problem is, even if we went
right up to the precipice and then came to an agreement, the
problem is to me, it is like a lender lending to my company and
I come up to the deadline of a payment and say, ``I am not sure
if I can make it or not. I will let you know by next
Thursday.'' And then I do it again 2 years later. Eventually
they are going to say, ``Well, I am not sure I want to continue
to lend to you.'' So that is the problem I think we have. And I
think that in any future, the rates have to go up. There is no
doubt in my mind.
Senator Brown. Congressman Bentsen?
Mr. Bentsen. I guess a couple things I would say, Senator.
First of all, we already know. We have empirical evidence, and
that is in the pricing of the auction earlier this week. That
is what is going on in the repo market right now. That is what
is going on in certain investors moving out of short
Treasuries. That is what is going in, as we understand it, with
other funds that are moving out of what they believe will be
affected CUSIPs or coupons coming up. So we already kind of
know what is going to happen, at least in the short run.
To Paul's comment, even with all the contingency planning
that our members are doing around Treasury operations, we can
do contingency planning. We can think what we know is going to
happen. But we do not know. And so we will have to work our way
through it, and we know we have deadlines like the Asian
markets opening and what the reaction will be there.
So, you know, we know what we know, we know what we do not
know.
Senator Brown. Thank you.
Governor Keating?
Mr. Keating. Well, who knows? But I would say empirically,
just historically--yesterday, the market went up, probably
because people said, well, everybody is going to get their act
together, work in a bipartisan manner to fix the problem, no
default. If we do default, I think for a time there will be the
attitude on the part of the markets and banks, Well, they will
fix it, so it is not going to be that bad.
But then we get to our Argentina moment, our Cameroon
moment, our Venezuela moment, which could very definitely
happen if people conclude that this whole thing is a train
wreck and they are not going to fix it.
Senator Brown. Thank you.
Mr. Stevens, I did not take high school Latin, but I know
``terra incognita'' is a place we do not want to be.
[Laughter.]
Senator Brown. Thanks.
Chairman Johnson. Senator Moran.
Senator Moran. Mr. Chairman, thank you very much. Thank you
to our witnesses for appearing before our Committee. Perhaps
because we are working so little on the Senate floor, we are
having the debate about a debt ceiling increase here in the
Committee, and so I think what you are getting from us is a
number of statements kind of testing the waters, telling how we
feel, and trying to find in my view some common ground to solve
a problem.
Let me pose this issue. The way I see this is I hate where
we are. I like certainty. This makes me uncomfortable. We often
complain about the uncertainty in the economy that Government
provides. My guess is that folks who represent your industry
have been in my office and have spoken to me about the
uncertainty of the Tax Code, the regulatory environment. We
know that is damaging to business, which means it is damaging
to job creation, and this is one more instance of more
uncertainty. This is not a good place to be. I understand that.
I think the deficit and the debt is a defining issue for my
generation. I think I have an obligation to my kids and
grandkids and Americans that I have never met, will never meet,
to do something during my time in Congress to get us on a path
that lends itself to which we are working toward balancing the
budget. I do not expect it to happen overnight, but I want to
know that there is a path that we are following that lends
itself toward a brighter future for future generations of
Americans.
And the issue that I face in trying to resolve how we come
to resolve this is: What moments of leverage do we ever have in
Congress? What is the moment in which we are so worried that
Texas is going to laugh at us that we do something? We do not
do things unless there is this moment that we come together
fearing more dramatic consequences to force us to do things
that apparently we are never willing to do on our own.
We ought not be having this debate about raising the debt
ceiling, is my point, except we never have the serious debate
or any resolution of how do we solve our deficit problem in the
absence of these moments.
Do you have some suggestion, do you have any belief that
Congress and the President will actually deal with this other
issue? So if your advice to me and to us is raise the debt
ceiling, OK, what is your advice to me about getting something
done about the deficit that is not just prolonging? We have--I
think what we are talking about here is the--we are
demonstrating our willingness to pay our bills when we raise
the debt ceiling, but we are doing nothing about our ability to
pay our debts when we do that. How do we do both? How do we
show the willingness--we demonstrate that we are willing to pay
our bills, but in the longer term we demonstrate we have the
ability to pay our bills? Do you want to indict Congress and
the President to respond to that? It is the frustration I have.
If we are never going to come together and solve the deficit
problem unless we have a crisis, do you have to take advantage
of the crisis? What do we do?
Mr. Keating. Everybody is trying to flip coins here to see
who takes that first. Well, Senator, if we raise the debt
ceiling and then 6 weeks we are back at it again and 6 years we
are back at it again, this will never be resolved sensibly,
intelligently, and patriotically unless and until, with the
President's leadership and with the good will of everyone in
this room, Democrat and Republican alike, and recognize that in
the year 2025 our latest estimate, every cent of Federal tax
revenue will go to Social Security, Medicare, Medicaid, and
interest on the debt. So it is the actuarial tables, and they
have to be addressed. So to tie in the debt ceiling increase
with some kind of long-term reduction in the long-term
liability of the country is the only way to do it. And how do
you do that? By bringing together men and women of good will,
and that is everybody, in my judgment, in the Congress. I
really believe that as an American citizen. Under the
leadership of the President, shut the door, sit around the
table, and say, OK, this is what we have got to do, here is the
plan going forward. And the ideas I have heard from both sides
of the aisle, whether it is chained CPI or a longevity index on
Social Security, all that makes abundant good sense, and it has
been presented to this body and to the House and to the public
at large in a bipartisan way. So it cannot be that difficult.
Mr. Bentsen. Senator, I would just say very quickly, you
raise a very serious political question, and we are not
political scientists, I guess. And it is a difficult question,
no doubt about it.
I guess what I would say is today the United States is not
Greece, we are not Italy, we are not in a situation where--
while we do have a serious debt problem, no question about it,
and long-term fiscal imbalance, we were able to access the
credit markets because of an understanding of our ability to
repay, the strength of our underlying economy, the fundamentals
of the Nation's economy. We want to avoid, no question, getting
into a situation down the road that would put us in a situation
like Greece or other countries who either have to pay a
tremendous premium on their debt or cannot sell their debt
whatsoever to where there are no buyers. We obviously do not
want to get to that situation.
So, again, that is where I go back to my comment with
Senator Crapo, is we are sort of in a two-part dance here or
intertwined. We do not want to impair our ability today to fix
our problems for tomorrow. We do not want to get to those
problems tomorrow, so let us not create any more difficulty
today. But I grant you, it is a difficult political question
that you all are faced with to deal with.
Senator Moran. I am not sure it is a political question. I
mean, obviously how we work together is a political question,
but there is a moral question here. There is an issue that is
really important to the future of our country, and at what
point in time do you get the leverage to force us to do things
that cause us to come together and do things that not all of us
want to do?
Chairman Johnson. Senator Tester.
Senator Tester. Thank you, Mr. Chairman. I also want to
echo my thanks to everybody on this panel for being here today.
Just a little editorial comment. I cannot tell you how many
times in the State legislature and back here I have heard folks
say, ``You need to run Government like a business.'' Now, I do
not necessarily believe that, but I think there is some merit
in it. And I guess when I look at my own farm, I ask myself,
would I do this to my own farm, a business? And the answer to
that is resoundingly, ``No.'' And I think that it is important
for everybody to understand--I believe this to be true--I do
not think there is anybody particularly proud of where we are
at debt-wise in this country, whether you are Democrat or
Republican. And I think there are ways we can address it, but
not this way, not--and I know it has been used many times, not
being held hostage. I think there are ways to do it through the
budget process, which, by the way, has been particularly
frustrating because there has been a minority that have held up
the ability to go to budget conference. And, quite frankly, the
majority needs to speak at some point, and I am not talking
about Democrat-Republican majority. I am talking about the
majority in this body needs to speak up and stop this kind of
craziness.
With that, let us get down to real life. I assume
agriculture is still pretty big in Oklahoma, Governor, and so
my question is: Operating loans are a pretty common thing. If
we default, could you tell me what the impacts on somebody
going to get an operating loan, whether it was in agriculture
or other small business, would be?
Mr. Keating. Well, we still have to eat, so hopefully the
lending will be available and the borrowing will be available.
But any time there is the chill, the panic of uncertainty,
there is a pullback. And there will be a pullback.
So we will all scramble around to try to do the best we can
to find quality borrowers and quality lenders, and you will
have commercial activity, but in the AG space particularly,
there is, as you well know, real linkage between what happens
in Washington and what happens in your farm or in my ranch. And
we have to be sensitive to that. You know, those of us who are
conservative may say this Government is too big, it is out of
control, fine, but it is a reality of the marketplace right
now. So that is long term. Whether it is a veteran's benefit or
whether it is Social Security or Medicare or Medicaid
reimbursement or in the AG space, commerce will not function
efficiently and well in a climate of uncertainty or a climate
of default. It just simply will not happen.
Senator Tester. OK. Senator Warner talked a little bit
about State and local governments, and I have only got a couple
minutes left, so I will just throw it to anybody who wants to
answer it. If you have thought about this issue, could you give
me an idea on how a default might impact local and State
governments?
Mr. Bentsen. Senator, one thing in particular that could be
of concern are State and local governments that have refunded
outstanding debt, municipal or State debt, and defeased that
debt using a Treasury escrow. They are already suffering right
now because the State and local governments series, the
``slug'' market, has been closed down as far as extraordinary
measures. So that means their escrows are not as efficient as
they might be, so that has cost them a little bit on that end.
But the other thing that could happen is if an escrow is
affected--a defeased escrow is affected by a Treasury security
that is deemed non-eligible collateral, then that State and
local government would be on the hook to make up any further
shortfall in that escrow. So there could be a cash effect to
State and local governments depending on how their escrow is
structured.
The only other thing I would say, to follow up on the
Governor's comments, among the largest holders of Treasury
securities are banks of all shapes and sizes. And if you affect
the liquidity operations of a bank and their ability to pledge
those securities, that is going to affect their ability to put
money out on the street. So, you know, it may be far down the
road and this could be short, but they ultimately are affected
across the system.
Senator Tester. Thanks. I think I will just close it out
right there. I would say this: We have seen the worst recession
since the 1930s. You guys felt it straight up. I know Gary
Thomas has felt it in the housing industry in a big, big way,
and our country has suffered for it. It would seem to me that
certainty and predictability and confidence are huge if we are
going to talk about growing this Government and growing the tax
revenue that comes with that growth. And I just want to say I
appreciate you guys standing up and telling it like it is very
much, and I certainly appreciate you being here today. Thanks,
guys.
Chairman Johnson. Senator Merkley.
Senator Merkley. Thank you very much, Mr. Chair, and thank
you to all of you for your testimony.
Mr. Thomas, your testimony laid out that just a 1-percent
increase in real estate rates can have a dramatic impact: a lot
fewer homes sold; a lot higher payment per month for those who
buy, say, a $200,000 house, I think it was $120 per month more;
a decrease of 700,000 to 900,000 jobs, and that is just in the
real estate market. But that is a pretty significant part of
our economy, home construction and home sales, so could one
anticipate that there would be less revenue coming from that
sector of the economy into the Federal Government if we
continue on this path?
Mr. Thomas. Well, absolutely. You would have less revenue
coming into the Federal Government as well as the State
governments, because, you know, you are not going to have the
same revenue base because of that. And this is a 1-percent--we
feel a 1-percent rate increase just because of this--it is not
considering the rate increases we are going to have over time,
which we are going to have. We have already seen that. But this
is a bump in rates immediately because of the crisis.
And so, you know, it is going to have a detrimental effect
on the housing industry, which obviously has a detrimental
effect on the overall economy because of the amount of GDP that
the housing industry represents.
Senator Merkley. Is it reasonable to assume that in other
sectors of the economy, for example, car sales, higher interest
rate on car loans, that we would see a similar impact, car lots
would make less money, pay less in taxes, and people would be
paying a lot more out of their budget for that next purchase?
Mr. Thomas. Absolutely, because, you know, if you raise
what it costs to purchase a home and the payments that you
would have to make, whether it is rolling over an existing loan
or purchasing a new home, it is that much less that they can
spend on other items--cars, you know, groceries, gas, you name
it. It impacts all of it.
Senator Merkley. So it really seems like the path we are on
right now is equivalent to creating a huge tax on the American
economy, one that really hurts families across the board, hurts
businesses, hurts employment, and yet we get nothing productive
for--I mean, it is one thing if you have tax revenue that can
do something valuable, build infrastructure, so on and so
forth. In this case, it is like taxing families with no value,
in fact damage.
Mr. Thomas. We need to keep the economic growth that we are
seeing right now intact and continue to grow. If we do not, we
are going to fall backwards rapidly.
Senator Merkley. I really hope this point gets through to
all of the colleagues on Capitol Hill of how this impacts
ordinary working families, that when there is this sort of
dysfunction just here in this square mile of Capitol Hill, how
people across America are hurt.
I wanted to turn, Governor Keating, to an issue which is
the potential impact on tier 1 capital that occurs if Treasury
bonds basically drop in value because interest rates increase.
Is that a concern of the industry?
Mr. Keating. Well, it certainly is, and it is very much,
Senator, a concern among the community banks out there, because
whether it is Oregon or Massachusetts or Oklahoma or South
Dakota, whatever the State might be, there are only so many
places you can go to make up for the lost opportunity that the
diminished value of the securities that you hold make you face.
And so I think that--you know, I know my grandfather in
Illinois, as a community banker, he had everybody in town on
his board, every investor he could find. If he had to go out
and get money quickly from some other source, particularly if
people did not even know where Salem, Illinois, was, he would
be very hard pressed. So this could create real issues for the
community banking environment.
Senator Merkley. I will just note, because my time is
running out, that I am also concerned about the impact on
repurchase agreements, or repo lending, that is very important
to many institutions. It sounds to me like the path we are on
can decrease revenues, and it can raise costs. Families that
lose their job may be more likely to need food stamps, for
example, the whole series of--so isn't it possible that in the
name of reducing the deficit, this path could actually increase
the deficit by decreasing revenues and increasing costs? Is
that possible?
[Witnesses nod affirmatively.]
Senator Merkley. Would it be fair of me to call that kind
of extraordinarily wrong-headed and destructive in a technical
way?
[Laughter.]
Mr. Bentsen. Your word, Senator, I guess it would be.
Senator Merkley. Thank you. I am out of time. I appreciate
your testimony.
Chairman Johnson. Senator Warren.
Senator Warren. Thank you, Mr. Chairman. Thank you, Ranking
Member. I appreciate your having this hearing. I appreciate
your being here today.
Mr. Keating, I read your article in the Washington Post
that using the debt ceiling as leverage in the deficit debate
is unwise and dangerous. You also noted that the respect and
admiration of the United States and its institutions inspire
around the world are based on the certainty that when our
Nation makes a promise, we keep it. And I take it from what I
have heard here today that all of you agree with that same
sentiment. I had read yours, Mr. Bentsen, that it is
unacceptable for Congress to ever voluntarily default on the
debt and that continual short-term extensions of the debt limit
increase unnecessary market uncertainty and raise questions
about our Nation's creditworthiness. So I think we are all on
the same page here, and I agree, I think that makes sense.
But here is my question: If the very prospect of a default
costs us money and costs us our good name, I do not understand
why we keep voluntarily raising the prospect of default with
all these votes on the debt limit. Congress already controls
the size of the debt. It gets to decide how much the Government
taxes and how much it spends. So don't you think it would be
better if Congress replaces the arbitrary debt limit with the
commitment that Treasury can borrow exactly as much as it needs
to pay our bills? Mr. Keating?
Mr. Keating. Well, the technical issue, Senator, of how you
change the process, if you change the process, will have to be
resolved among and between you and your colleagues. There are
probably many different approaches that make good sense.
I think what me and my colleagues are saying is when it is
all said and done, whether you scrap the debt ceiling process
as it exists now, if you go to another structure, another
system, if you include or do not include the President in the
process, then, fine, I mean, just get it fixed. But I do not
know what the very best solution would be. I just think it is
very important to look for a solution that we do not do this
every year, every 2 years, or every 6 weeks.
Senator Warren. So I think we are in the same place, Mr.
Keating. We cannot do this every year, every 2 years, every 6
weeks since what I hear you saying is the very threat is
costing us money. It is costing us our good name in the
marketplace. And the way we stop doing that, it seems to me, is
to take responsibility for these debts. Does that make sense?
Mr. Keating. You are right. I mean, they are our debts. We
have to pay them off eventually.
Senator Warren. We have got to pay them.
Anybody disagree with that?
Mr. Stevens. Senator, I would just say that so much of our
spending is on autopilot already. If you look at the next 10
years, mandatory spending, which does not get a vote here in
the Congress, is 61 percent of outlays. Interest on the Federal
debt is 11 percent of outlays. That is about three-quarters of
all our spending.
My worry is if there was not a gut check about increases in
the debt, those numbers would simply get worse. If you are a
household and you sit down with your spouse and you say, well,
where are we? You have got to make a decision about whether you
want the next credit card or the next purchase because at some
point it gets unmanageable.
Senator Warren. So, Mr. Stevens, I hear you saying in
effect you want some accountability in the system. But it seems
to me that accountability means that we want to reduce wasteful
and unnecessary spending even if those votes are not
politically popular. Accountability means voting to close tax
loopholes so that wealthy individuals and big corporations are
going to pay a fair share here. Accountability does not mean
taking easy political votes and then turning around and
grandstanding over whether or not we are going to raise the
debt limit.
The way I see it, I appreciate your thoughts on this and
the importance of our not voting over and over and over on
raising the possibility that we are not going to pay our debts
as they come due. You know, a U.S. default is the economic
equivalent of a nuclear bomb. But thanks to this arbitrary debt
limit, we routinely arm that bomb and watch in horror then as
the clock ticks down to zero. There has to be a better way to
do this. And it seems to me the least we can do, the bare
minimum we can do, is pass a long-term debt ceiling increase as
quickly as possible.
But, really, I think we should take this option off the
table. The United States should honor its obligations and pay
its bills in full and on time, period. Anything else, I think
you have made clear, hurts our families, hurts our businesses,
hurts our country. Thank you.
Thank you, Mr. Chairman.
Chairman Johnson. Senator Heitkamp.
Senator Heitkamp. First off, I would like to thank the
Chairman for holding this very important hearing. We are at 5
percent. Five percent of the American people think we are doing
a good job. Why would they believe anything we said about the
consequences of the debt limit, of what we are doing here? And
that is why it is so important they hear from you. That is why
it is so important that you participate.
You know, I am kind of new to this business, but I come
with a dad who was a truck driver, but he had a saying: ``When
you are in a hole, stop digging.'' Right?
So what have we done? We have shut down Government, but
unanimously, over in the House, passed a resolution saying we
are going to pay everybody who is not working. Do you know how
absurd that is to the Federal Government and to farmers in my
State who had a huge natural disaster that they cannot report
anything to the FSA? I mean, just think about that.
And so there we are representing dysfunction, and now we
are willing to take the greatest threat of all and jeopardize
this economy and jeopardize this recovery, and I want to--
because we came here to listen to your thoughts, and I just
want to kind of reiterate some of the wise things you have told
us today.
Mr. Bentsen, you said no amount of planning could take into
consideration all the possible consequences. No amount of
planning can take into consideration all the consequences. And
I want to finish with a couple statements of yours, Mr.
Stevens. Lessons cannot be unlearned. If we default, if we
continue to do this, we will reap the whirlwind of the
consequences of that. And, finally, more importantly, damages
will be visited on every American if we do this.
There are people in this body who honestly are trying to
find a way forward to say it does not matter. This matters
dramatically, and it matters not just to the livelihood and to
the political popularity of this group and whether we are going
to get, you know, a pox on all your houses. That should be most
irrelevant. What should be relevant is the consequences on the
American people. It is understanding that when you say we are
going to pick and choose our debts that we are going to pay.
You know, every American out there, when they look at their
credit score--let us say I am going to buy a car. I always paid
off my car loan, always late on my credit card. What is my
credit rating? Do I tell the bank, hey, look, do not worry
about all those credit cards I have not paid, because I always
paid my bank loan, I always paid my car loan?
That is not how it works in the real world, and they know
it. They know that this is dysfunction that has to be
addressed. And I agree with my friends and my colleagues on the
other side that we have a debt and deficit problem, and anyone
who wants to ignore that is not looking at facts, not looking
at the statistics, Governor, that you have raised here. But we
cannot do it. We had Bowles-Simpson. They said they want to
negotiate. When have we heard this before? Bowles-Simpson,
Super Committee. You know, and all along, all the ultimatums of
we are not going to raise taxes or we are not going to touch
entitlements--it is equal opportunity blame--have led us to
this point where we are not functioning the way we need to
function on behalf of the American people.
You have been here and lots of great questions, but I just
want to thank you, and I want to encourage you to continue to
tell your story, continue to do what you are doing here,
reiterating that we cannot let this happen, because I do not
want to be here--I do not want to be here saying, ``I told you
so.'' And you do not want to be here saying, ``I told you so.''
We want to stop this nonsense from happening. We want to abide
by the full faith and credit of the American people because
that is who we represent. It is not the American Government. It
is the trust and the responsibility that we have to the
American people.
And so thank you so much. Continue your good work. I am
almost out of time. I know there is no question there. I did
not get a chance for an opening statement. But I do want to
tell you how invaluable your work on this is and how important
it is that you continue to ring the bell, that you continue to
sound the alarm, because in the end it is not about us in this
room. It is about people who are getting car loans. It is about
people who are retiring. It is about people who want to finance
a house and they cannot even go and get approval because now we
are shut down. So if they saw the rates rising, so what is
their chance? And that is who we are here to represent, those
farmers that Senator Tester talked about.
So thank you and continue your good work. It is so
important that your voice get heard in the next couple days
here.
Chairman Johnson. I am told that Senator Schumer is on his
way.
Mr. Bentsen, GAO has said that the costs from the recent
financial crisis may exceed $13 trillion, and some have
suggested a default could be even worse. What would a default
mean for investors, including both current retirees and future
ones?
Mr. Bentsen. Mr. Chairman, I think that in the case of
current investors, if there was a default and coupon payments
were missed, then at least immediately, you know, they would be
out money for some period of time. It is not clear whether they
would be paid accrued interest from the due date or the date of
actual payment; and if they were not, then obviously they would
have lost earnings associated with that.
If they are holding Treasury securities at this point in
time, as Treasury securities move down in price, then they
would take a loss accordingly on that as well. So I think it is
fair to say that current investors would certainly have
negative consequences as a result of this.
Chairman Johnson. Mr. Stevens, what do you think?
Mr. Stevens. It will hurt in some fashion or other.
Everyone who saves, everyone who invests, everyone who borrows,
everyone who has a stake in the economy, not people of one
category or another necessarily uniquely, but certainly
retirees would be among those, people who are saving for
longer-term purposes, institutions as well. The effects will
be, I think, very, very broad cast.
Chairman Johnson. Thank you.
Senator Schumer?
Senator Schumer. Well, thank you, Mr. Chairman. I
appreciate the courtesy that the Committee always extends, and
I apologize. As you can imagine, there is a lot going on. But
thank you for holding this hearing. It is a very important
hearing at a very crucial time, and I want to thank all our
witnesses, and I want to thank Senator Crapo as well.
First, I want to just make a few responses to some of the
committees made earlier today, that the most urgent threat to
our economy is overall debt, not debt limit. Well, I agree in
the long run we are going to have to make serious adjustments
to deal with our debt load. We have made some progress there.
By the way, I would add middle-class incomes are declining in
America. To me, that is a greater problem than our debt. If it
happens for another 5 or 10 years, it is a different America.
But having said that, I do not want to gainsay the
importance of getting our deficit down, but we have made decent
progress there.
Mr. Stevens, I heard you spoke about confidence earlier.
Well, it is safe to say investors have confidence in the
ability of the United States to pay its obligations. If that
changes, it is going to make our debt worse considerably.
Interest rates will go up. It is going to make the country less
strong. And I would argue that one of the best ways to increase
our debt is to not pay our debt obligations, to not pay our
bills, plain and simple. The two are not unrelated. They are
very related.
So I want to agree with Senator Menendez. It is mind-
boggling we are even discussing this here, but here we are just
2 years after the last prolonged discussion about whether we
would pay our debt, and we have to ask the question.
So an important purpose of this hearing, Mr. Chairman, is
to deal with the debt ceiling deniers. There are two types of
debt ceiling deniers: one group generally confined to a small
minority in the House that thinks default does not matter, that
it is all a lie ginned up by the Obama administration. I have
noticed that one of the people most quoted is Congressman Brown
from Georgia who says it does not matter. This is the same man
that said something to the effect a third of what he learned in
medical school were lies. If we are having someone like that
lead one party of this country or lead this country, we are in
trouble.
But there is a more sober group which has gained steam in
the Senate over the last few weeks, and maybe that is more
troubling. They think there is a magic solution that many
members of this body have put forward as a way out of our
predicament. ``We do not need to default,'' they say. ``We can
pick and choose which payments to make, and if we prioritize
paying interest on our debt, we would avoid default.''
So, Mr. Bentsen and Mr. Stevens, I want to ask you to
elaborate on prioritization a bit and the effects it could have
on the market. Treasury Secretary Lew said prioritization is
default by another name. I agree with that statement. But we
have hundreds of billions of dollars of Treasury securities
maturing between October 17th and the end of the month, $120
billion October 17th, $93 billion October 24th, $89 billion
October 31st. We rely on investors' willingness to roll over
these debts as they mature.
So, Mr. Stevens, you have talked a lot about confidence
today. How confident can we be that investors will be willing
to roll over these debts as we are actively deciding, if some
of these folks had their way, that we will not repay some of
our creditors?
Mr. Stevens. Well, Senator, as I said, if you think about a
household that relies upon the bank for financing on an ongoing
basis, if the bank finds out that the household is choosing to
pay some bills but not others, it does not inspire great
confidence in the bank to continue to lend; and to the extent
that it does, it is going to charge a higher interest rate. And
I think that is the analogy. I honestly believe that the
confidence of this vast market of lenders that we depend upon
to finance debt at the level of almost $17 trillion will take a
blow, irrespective of which bills we decide not to pay.
Senator Schumer. And isn't it true we have never had this
experience before except for one day where there was a mishap
somewhere, that we have never had an active--that we have had
an active decision made we are going to pay some debts and not
others?
Mr. Stevens. It is not an experiment we have run or should
run.
Senator Schumer. Well said. I yield back my remaining time.
Chairman Johnson. Thank you again to all of our witnesses
for being here today. This hearing is adjourned.
[Whereupon, at 11:58 a.m., the hearing was adjourned.]
[Prepared statements and responses to written questions
supplied for the record follow:]
PREPARED STATEMENT OF FRANK KEATING
President and Chief Executive Officer
American Bankers Association
October 10, 2013
Chairman Johnson and Ranking Member Crapo, my name is Frank
Keating, President and Chief Executive Officer of the American Bankers
Association (ABA). The ABA is a 135-year old association that
represents banks of all sizes and charters and is the voice for the
Nation's $14 trillion banking industry and its two million employees. I
also served as Governor of Oklahoma for two terms and as a member of
the Bipartisan Policy Center's Debt Reduction Task Force.
I appreciate the opportunity to be here to represent the ABA
regarding the need to raise the debt ceiling and the consequences of
failing to do so.
Let me be very clear: we need to meet our obligations and not
create any uncertainty that we will do so--on-time, every time. In this
country, our word is our bond. The respect and admiration that the
United States and its institutions inspire around the world are based
on the certainty that when our Nation makes a promise, we keep it.
Ordinary Americans will bear the brunt of the damage if our leaders
do not prevent the United States from defaulting on its debt for the
first time in history. We are much closer to disaster this year than we
were just over 2 years ago when the debt-ceiling standoff caused
economic uncertainty to spike, consumer confidence to plummet and stock
prices to spiral downward--all because of the perceived risk of the
United States defaulting on its domestic and international debt
obligations. The Bipartisan Policy Center (of which I am a board
member) estimated the 2011 debt standoff cost taxpayers close to $20
billion as nervous investors demanded higher interest on U.S. Treasury
bonds to account for the risk of Government default. If our Nation
defaults on its nearly $17 trillion in debt, the harm is likely to be
measured in hundreds of billions of dollars.
Even the slightest uptick in Treasury interest rates would cascade
through the economy. It would raise the costs for taxpayers to service
our country's debt and would raise the cost of borrowing for
businesses, meaning job losses and price increases. Default would be a
blow to retirement funds, leaving fewer resources available for
retirees. For banks, which hold $3 trillion in Treasury, agency and
mortgage-backed securities, the sharp decline in value of those
securities would translate into fewer resources available for
mortgages, business, auto, credit card and student loans.
If Congress fails to act and we hit the debt ceiling we will set
off a chain of events that will cover our entire economy and impact all
Americans. These impacts would not be easily reversible. The
repercussions could linger for years, providing a constant drag on our
economy.
Default would also put the United States in the category of
reckless debtor nations that have broken their word in the markets,
including Argentina, Venezuela and Cameroon. Defaults left those
countries financial pariahs and debilitated their economies.
No one takes our national debt more seriously than I do. As a
Republican Governor, I balanced my State's budget 8 years running and
worked with colleagues from both sides of the aisle to ensure that
Oklahoma honored its debts and expanded its economy. Later, I joined
the Bipartisan Policy Center's Debt Reduction Task Force (also known as
the Domenici-Rivlin commission), which endorsed painful but necessary
measures to put the country's fiscal house in order. Rather than
inflict damage upon ourselves by failing to pay our existing
obligations, we should instead focus on reducing our future spending
and bringing our debt to a sustainable path.
Honoring U.S. Fiscal obligations is not a Republican or Democratic
issue--it's the American thing to do. As George Washington said, ``No
pecuniary consideration is more urgent than the regular redemption and
discharge of the public debt; on none can delay be more injurious, or
an economy of the time more valuable.''
Since May, the Treasury has used extraordinary measures to keep us
from hitting the debt limit. We have been lucky to avoid it thus far,
but time is up. With the U.S. economy and our Nation's honor on the
brink, our leaders must--in the spirit of patriotic compromise--do what
it takes to make a deal.
If confidence is lost in our country's willingness to pay its bills
on time, we will have lost something that may be impossible to regain--
the world's trust.
The Debt Ceiling Must Be Raised To Pay What Our Country Has Already
Spent
It is essential that Congress act to raise the debt ceiling and pay
the debts it has already incurred to maintain our Nation's credibility.
U.S. Treasuries are the world's risk-free assets and lifeblood of
global financial markets. When times are tough, it is Treasuries that
are the world's safe financial harbor. This is only possible because
governments, businesses and investors around the world have
unparalleled confidence in both our ability and willingness to pay out
debts. Our country has been a huge beneficiary of this and we should
never take it for granted. We need to manage carefully our debt levels,
but we cannot inject doubt as to our willingness to meet our
obligations.
By raising the debt ceiling, Congress does not authorize any new
spending, it simply commits to paying the bills it has already approved
and money already spent. Paying our debts should not be confused with
controlling future spending. Both must be done. At over 70 percent of
GDP, there is no denying our overall debt level is too high. We need as
a country to find a path forward that makes the most effective use out
of the hard-earned tax dollars our citizens entrust to the Government
to manage.
Default Will Have Severe Long-term Consequences
Failing to raise the debt ceiling in time would be an unprecedented
mistake that would have dire consequences for our economy. Even the
prospect of a default has shown to be massively disruptive to our
economy. The debt ceiling standoff in 2011 gave a clue to the potential
damage. As I mentioned above, that event alone cost U.S. taxpayers
nearly $20 billion in increased interest costs, all of which could and
should have been avoided. The market today is already pushing short-
term Treasury rates up and credit default insurance spreads on
Treasuries have widened.
If the United States were to fail to pay its debts, even for a few
days, the consequences would be many times worse. In the first 2 weeks
of November alone $345 billion in U.S. Government bonds will come due.
If we have not raised the debt ceiling by this point, the ability to
roll over that debt and pay bond holders could be impaired. Interest
rates would spike, as investors demand a higher premium for the risk
they now take by holding our Government's debt.
The inevitable increase in Treasury interest rates would cascade
through the economy, directly impacting the lives of every American.
Taxpayers will have to pay the higher government interest costs. Stocks
would plummet, dealing a sharp blow to retirement funds. Borrowing
costs for companies--both large and small--would rise, making
businesses less willing and able to invest in new plants, buy equipment
and hire additional workers. Because banks hold large portfolios of
Treasury, agency and mortgage-backed securities, any rise in rates
would create unrealized losses that would end up reducing capital
ratios and limiting the supply of funds that could be lent to
individuals wanting to buy a home, finance a new car or go to college.
The short-term impacts will certainly knock the current economic
recovery back on its heels. These consequences are not easily
reversible and are likely to linger for years, providing a constant
drag on our economy. While the failure to pay our country's bills on-
time would have the biggest cascading impact, failure to raise the
ceiling would also reduce the available funds to pay salaries to our
armed forces, retirees on Social Security, and thousands of other
commitments we have already made.
A Sustainable Solution to Our Long-term Debt is Needed
There should be a wholesome debate about how taxpayer dollars are
spent in the future. We need to be sure that those precious tax dollars
from hardworking American's are used in the most productive way. But we
should not confuse the need to pay our bills for things that Congress
has already approved and spent with the management of spending that is
appropriate for the future. To use a credit card analogy, the decision
about what to buy on credit tomorrow must take into account the debt we
already owe, but that is never an excuse for not paying the current
bill on time and in full.
Markets, not Congress, truly determine our Government's ability to
borrow. Our debt is already 70 percent of our GDP. While the sequester
is expected to reduce debt-to-GDP for a few years, even it fails to
arrest the longer-term upward trajectory. According to the
Congressional Budget Office (CBO), by the year 2043 entitlement
programs and debt service payments alone are projected to outstrip
revenues. This means that there will be no funds at all for any
discretionary spending. It is impossible to address the long-term
sustainability of our debt without addressing the growing costs
associated with our entitlement programs.
The CBO predicts that in the next 25 years our debt will surpass
100 percent of our GDP. This would put us in the same league as the
fiscally unstable countries that led Europe into crisis. Already, the
U.S. debt amounts to nearly $54,000 per person, and $148,000 per
taxpayer. The interest payments alone on our debt will cost over $8,000
per U.S. citizen in 2013.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Addressing future spending and bringing our debt down to
sustainable levels must be done in a bipartisan way. My experience
serving on the Domenici-Rivlin commission gives me hope that tough
decisions can be made for the good of our country.
Conclusion
The answer to managing our debt is not to simply stop making our
payments on money already spent. We should never inject uncertainty
into the markets that we as a country will not keep our word and pay
the debts that we owe. We must pay our bills on-time and in full; then
we must carefully manage our future spending so that we can begin to
pay down our accumulated debt. I urge Members of this Committee and the
full Senate and House to engage in a bipartisan way to find long-term
solutions to our growing debt levels.
Our role in the global economy is too important to flirt with
danger of a default. Once trust is lost, it is difficult, if not
impossible, to regain.
______
PREPARED STATEMENT OF KENNETH E. BENTSEN, JR.
President, Securities Industry and Financial Markets Association
October 10, 2013
Chairman Johnson, Ranking Member Crapo, and Members of the
Committee, my name is Ken Bentsen and I am President of the Securities
Industry and Financial Markets Association (SIFMA).\1\ Thank you for
the invitation to testify today regarding the risks associated with a
default on the Nation's public debt. SIFMA appreciates the opportunity
to provide input on consequences to the financial markets and the
overall economy should the United States fail to make timely payments
on any of its outstanding debt obligations. Given the important role
U.S. Treasury debt plays as a world currency and store of value, any
such default would likely negatively impact the economy and certainly
disrupt the operations of our financial markets. Indeed market
observers have already noted the effects of the current uncertainty
regarding the public debt limit, including fairly dramatic pricing
effects on the short end of the Treasury market and re-purchase
agreements or repos. While we firmly believe that the time is long
overdue for the Administration and the Congress to come together and
develop long-term solutions to our very real fiscal challenges,
voluntarily defaulting on the Nation's obligations should not be an
option for policymakers to consider. Even a short-term failure to
fulfill our obligations would seriously impair market operations and
could have significant consequences to our fragile economic recovery.
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\1\ The Securities Industry and Financial Markets Association
(SIFMA) brings together the shared interests of hundreds of securities
firms, banks and asset managers. SIFMA's mission is to support a strong
financial industry, investor opportunity, capital formation, job
creation and economic growth, while building trust and confidence in
the financial markets. SIFMA, with offices in New York and Washington,
D.C., is the U.S. regional member of the Global Financial Markets
Association (GFMA). For more information, visit http://www.sifma.org.
---------------------------------------------------------------------------
Should Congress fail to raise the debt limit and the Treasury is
unable to meet interest and principal payments coming due, it would in
effect trigger a series of events which inevitably would lead to
American taxpayers paying more to finance our debt. We strongly urge
the President and the Congress to come together and negotiate a
workable solution to avoid these consequences.
Since the threat of default first arose in the summer of 2011,
SIFMA has been engaged with its members in developing scenarios to
better understand the consequences of a failure to pay on Treasury
securities. I would stress that while market participants believe that
the likelihood of a default remains low, the industry also believes
that, given the potential negative consequences, it is prudent from an
individual member perspective as well as a broad market and economic
perspective, to develop plans to further cooperation, coordination, and
information sharing. Based on our work, we believe market participants
are operationally prepared to deal with the scenarios that a Treasury
failure to pay would present. Market participants have worked to
develop reasonable assumptions and to prepare accordingly so that this
important market continues to function. However, as you know, a default
by the U.S. Government would be unprecedented and the consequences for
the market and the economy would be dangerously unpredictable so no
amount of planning can identify and mitigate all of the potential
short- and long-term consequences of a default. But we are certain that
one of the most significant consequences to the Nation would be a rise
in Treasury's cost of funding as investors demand a default premium
that will result in higher rates at auction to compensate for the
additional risk.
Working with SIFMA's broad membership from both the buy and sell
side, as well as key operators of the settlement infrastructure of the
Treasury market, SIFMA has developed scenarios based on a number of
reasonable assumptions. Working through these scenarios, SIFMA
developed possible approaches and noted questions and issues that could
not be resolved. I would stress that over the course of the industry's
consideration of the dangers of default, no scenario presents a clear
cut answer. Indeed, the settlement arrangements for Treasury securities
do not contemplate or recognize the possibility of a default and thus
the ability to sell, finance, or post as collateral, defaulted
Treasuries may be compromised. This ultimately could lead to a
liquidity drain from the market. It is important to note that Treasury
securities are a key factor in the daily financing of market operations
with the U.S. Treasury repo market totaling between $1.2 and $1.9
trillion daily. Undermining that market would have a deleterious effect
on every market participant. I outline additional consequences below
based on discussions among our members.
October 17 and Beyond
The Secretary of the Treasury has stated that the Treasury will
have exhausted all ``extraordinary measures'' by October 17, and that
estimated cash on hand will be insufficient to meet current
obligations. Significantly, Treasury has payments coming due of $120
billion on October 17 and $93 billion on October 24, followed by
additional principal and interest payments due every week thereafter.
Settlement Timeline and Impact on Payments
Settlement and processing for daily transactions in Treasury
securities takes place in the evening after the trading day in the U.S.
Fedwire (the Federal Reserve service that provides transfer services
for Treasury securities) normally runs its evening processing around
7:00 pm eastern time, and other processes, including those of the
clearing banks and DTCC's Fixed Income Clearing Corporation (FICC), run
shortly after that. Should there be an announcement that Treasury will
be postponing a payment due the following day because of an inability
to pay, before these systems run, the systems should be able to adjust
to reflect changed payments dates. Under this scenario, securities may
be transferred and can be sold, financed and, if acceptable to a
counterparty, used as collateral. However, we note that it is
impossible to predict what overall impact on the market for these
securities, on the price, on their acceptability as collateral in repo
transactions or as to their acceptability as collateral throughout the
global financial system since in effect Treasury would be acknowledging
that it could not pay principal and/or interest when due.
If a Treasury determination and announcement were delayed beyond
the time when systems normally run, some processes may be delayed for a
short-period in the evening. It is not clear how late systems can be
held and the potential consequences of any delay on the opening of the
trading day in Asia. An announcement of an intent to extend a payment
beyond the current expected maturity after systems have been run (with
the assumption that payments will be made the following day) would not
be reflected in the evening's processing and would result in the
inability to transfer further the security after the payment is missed
on the following day. That is, certain Treasury securities may no
longer be eligible collateral and may have limited ability to be
pledged or sold.
In addition, Treasury securities are traded in a global market with
the global trading day beginning in Asia at 8:00 pm eastern time.
Market participants normally run their own internal processes prior to
the trading open in Asia in order to provide a clear cutoff to reflect
positions in their books and records. Failure to provide early
indications of intention could further confuse positions and could
cause trading confusion in the Asian markets as it will be unclear
whether certain securities will be paid in a timely manner. The
disruption to pricing and trading behavior is impossible to predict.
Announcements from Treasury
The timing of Treasury's announcement of its intention not to make
a payment timely remains the key variable under all the scenarios our
members reviewed. Given what we understand to be the limitations of the
transfer mechanism for Treasury securities, failure to provide
sufficient notification for a payment failure prevents the security
from being further transferred. Holders of such a security may have
limited opportunity to sell it, finance it through repo or post it as
collateral.
As noted above, as a result of a late notification, a Treasury
security on which a payment is not made may not be further
transferable. While we assume that the missed payments will eventually
be made, while the payment remains unpaid the holder of the security
that expected its payment may not be able to sell the security or to
finance it in the repo market. Similarly, collateral and margin
requirements at clearing houses and central counterparties may no
longer be able to be met with these securities. Further, it is entirely
possible that for purposes of any escrow, collateral or margin
arrangement involving such securities could result in them being deemed
non-eligible and subject to replacement. Essentially the holder would
have a receivable from the Treasury that could not be further
transferred and, overall we would expect some frictional decrease in
liquidity in the market-liquidity that would be available for further
investments, loans and important business development. The impact could
be widespread. Counterparties might begin to question whether other
counterparties would be able to replace ineligible collateral.
Disruptions in the Treasury repo market would further impact price
changes on Treasury securities. Treasuries are the world's safest asset
and the most widely used collateral for both risk mitigation and
financing. Shrinkage in the financing market would further pressure
rates as haircuts on Treasuries would increase--thus reducing financing
capability--and disrupt the collateral market because of margin calls
throughout the financial system that would reflect the overall
repricing of Treasury collateral.
Inability to Plan
Our understanding is that Treasury will determine payments/
postponements on a day-by-day basis. Once Treasury fails to make a
timely payment, markets will have to wait each day for Treasury's
indications as to its intentions for payments due on the following
days. If this were to continue for any length of time, market
participants would need guidance on missed payments as well as future
payments on additional securities. In addition, we understand that
coupon payments that are not paid will ultimately be paid to the holder
of record of the security on the day the payment should have been made.
Uncertainty on that payment will continue until payment is finally made
Clearly, securities that are coming due in the short-term would be less
attractive to hold and may become harder to finance as doubts about the
payment of interest and principal when due would be more prevalent.
Even if the debt ceiling were raised at the last minute, experience
from the 2011 event suggests that securities that may be the subject of
a default in the near future will trade at a premium and will be more
expensive to finance.
Municipal Funding Challenges
Some specific issues arise with regard to the municipal securities
market. A key interaction between municipal securities--the principal
means by which State and local governments finance investment in
schools, highways, airports, water and sewer systems, hospitals and
other key infrastructure--and Treasury securities involves municipal
refunding transactions. A refunding typically occurs when interest
rates have fallen since a State or municipality issued long-term bonds,
and a borrower is able to achieve interest cost savings by refinancing
bonds at the current lower rates. When a refunding can be achieved
before the old, higher-interest bonds can be redeemed early, the
borrower invests the proceeds of the new, lower-interest bonds in
Treasury securities, and the income earned from these investments is
used to pay debt service on and eventually redeem the old bonds. When
old, higher-interest bonds are fully backed by an escrow portfolio,
they are said to be ``defeased'' or ``escrowed'' and treated as triple-
A rated.
One issue involves a category of nonmarketable Treasury securities,
State and Local Government Series (``SLGS''), special, customized
securities sold by Treasury specifically for the purpose of funding
State and local government escrow portfolios. The Treasury Department
stopped selling SLGS on May 15, 2013 as the Government's debt
outstanding approached the current debt ceiling, making it more
difficult and costly for States and localities to refund outstanding
bonds. An even bigger issue would arise if the Treasury defaulted on
outstanding bonds which are backing defeased municipal bonds. Because
defeased bonds are backed by the income from the escrow portfolio, a
Treasury default would ``pass through'' to the municipal bond holders,
calling into question the reliability of escrowed municipal securities
in general.
Industry Playbook
Given the significant uncertainty of the timing of a default and
the uncertain impacts, market participants and SIFMA have developed a
playbook this is intended to provide key market participants and
service providers a forum to share information about the latest
developments including decisions from the Treasury, the Administration
and Congress and the status of the infrastructure and settlement
providers. Of particular concern to market participants is whether an
early indication from Treasury that securities will be extended has
been made and, if not, whether processes are being--or can be--delayed.
Our current playbook calls for an initial call with market participants
at 2:00 pm eastern time to share the latest information and set in
motion the later planned calls. The schedule suggests industry wide
calls at 6:30 pm, 8:00 pm, 10:00 pm and 8:00 am eastern time the
following morning in order to allow market participants to monitor in
real time the impact on the settlement process. Without a resolution of
the debt ceiling before the Treasury's expected limit of extraordinary
measure on October 17, we expect to initiate this call protocol on
October 16 as a Treasury bill is scheduled to mature on October 17. Of
course, we maintain the ability to call the industry together at any
time should events dictate.
Conclusion
U.S. debt obligations are the currency of U.S. and global financial
markets and the real economy and their soundness should not be
questioned. No amount of planning can anticipate all the potential
consequences of a default. Short- and long-term costs to the taxpayer
can be anticipated but the further limits on the ability to transfer,
sell, finance and post as collateral defaulted securities would only
serve to undermine investor confidence and hurt our fragile economic
recovery. SIFMA and its member firms have frequently called on Congress
and the Administration to work together to put our fiscal house in
order but unnecessarily triggering a historic default will result in
dramatic, and possibly permanent, damage to our economy and markets in
ways both anticipated and unanticipated, and must be avoided. Again,
SIFMA appreciates the opportunity to testify today and I look forward
to answering your questions.
______
PREPARED STATEMENT OF GARY THOMAS
2013 President, National Association of Realtors'
October 10, 2013
Introduction
Chairman Johnson, Ranking Member Crapo, and Members of the
Committee; my name is Gary Thomas. I am a second generation real estate
professional in Villa Park, California. I have been in the business for
more than 35 years and have served the industry in countless roles. I
currently serve as the 2013 President of the National Association of
Realtors' (NAR).
I am here to testify on behalf of the 1 million members of the
National Association of Realtors'. We thank you for the
opportunity to present our views on the potential economic consequences
if Congress fails to raise the statutory limit on our Nation's debt
before the limit is breached.
State of Housing
It is no secret that real estate is a cornerstone of our Nation's
economy. The housing sector accounts for roughly 18 percent of GDP and
research has shown the social and financial benefits to all Americans.
As our economy slowly improves from the Great Recession, the U.S.
housing market will be key to this recovery. Our Nation will not return
to full employment and robust economic health unless the real estate
market makes a broad-based and lasting comeback. Fortunately, the U.S.
housing market recently has shown some hopeful signs.
Housing has been instrumental in pulling the economy out of the
Great Recession, substantially contributing to our Nation's economic
growth since 2011. Home sales, housing prices, and residential
construction have increased during this time, supported by low mortgage
rates and improved consumer confidence in both the housing market and
overall economy. In the past 2 years, home prices have gone up 15
percent, pushing up the value of household real estate to $18.6
trillion at the end of the 2nd quarter of this year. Additionally, home
sales were 13.2 percent higher in August 2013 than a year earlier with
5.48 million homes sold, but were well below the 7.23 million homes
sold in August 2005. Also, the residential construction industry has
recovered almost half a million jobs of the 2.3 million lost during the
recession; however, it still lags behind as a job creation engine.
Impact of a Default
While these figures are promising, the housing market clearly
remains far from healthy. Maintaining momentum in the housing market is
particularly crucial right now. Sustaining the housing market rebound
will increase economic and job growth, as it has in past U.S. economic
recoveries. However, the momentum of the housing recovery will be in
serious jeopardy if Congress is unable to move passed unnecessary
political brinkmanship over raising the debt limit. A default, or even
the perceived threat of a default, could result in a harsh and long-
lasting recession, which may be even more severe than the previous
economic downturn.
Congress must raise the $16.7 trillion Treasury debt limit before
the middle of October 2013, which is when the Treasury will exhaust all
its extraordinary measures to stay under the limit. At that point,
incoming revenue would be the only way for the United States to finance
its debt obligations. However, the Government is expected to experience
a monthly deficit of $50 billion in FY2014, which will rapidly diminish
any remaining cash the Treasury has on hand. If this occurs, the United
States would be unable to meet its financial commitments and be in
default on some or all of its obligations. Investor confidence along
with consumer and business sentiment will likely fall sharply, placing
both domestic and global financial markets into turmoil.
2011 Debt Ceiling Impasse
Given that the United States has never defaulted on its debt
obligations, it is impossible to predict the exact economic impact in
the event our Nation is unable to pay its creditors. However, economic
theory and evidence of significant economic disruptions resulting from
the 2011 debt ceiling impasse, when Congress delayed raising the debt
limit until the very last minute, can help illustrate the severity of
an actual default.
According to the U.S. Department of the Treasury, the political
brinkmanship during the 2011 debt ceiling was responsible for financial
market disruptions, reduced consumer and business confidence, and
slower job growth. The debt ceiling stalemate ultimately led Standard &
Poor's to downgrade our Nation's credit rating. Even though lawmakers
were able to raise the debt limit before the Treasury expended its
remaining cash on hand, political gridlock nearly caused our economic
recovery to freeze. Furthermore, the Bipartisan Policy Center estimates
that delays in raising the debt limit during 2011 led to higher
borrowing costs for the Federal Government, which the Bipartisan Policy
Center estimates will cost taxpayers an estimated $19 billion over the
next 10 years.\1\
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\1\ Bipartisan Policy Center. Debt Limit Analysis. By Steve Bell,
Shai Akabas and Brian Collins. Available at: http://
bipartisanpolicy.org/sites/default/files/Debt%20Limit%
20Analysis%20Sept%202013.pdf.
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Higher Treasury Rates Mean Higher Mortgage Rates
Long-term mortgage rates are closely linked to U.S. Treasury rates.
As a result, an increase in U.S. Treasury rates would result in higher
mortgage rates. In the event of a default, U.S. Treasury prices would
fall and yields, which move inversely to prices, would rise. Both banks
and borrowers would be sensitive to this change.
Banks, which face requirements regarding the amount of capital they
hold, would see declines in the value of one of their core capital
assets--U.S. Treasury securities. Banks would likely restrict new
lending in order to shore up capital and charge more for mortgages they
originate. Borrowers would be impacted by both tighter credit standards
and the compounding of higher rates.
Historically, an increase in mortgage rates of 1 percentage point
reduces home sales by roughly 350,000 to 450,000 units. That
relationship might prove more robust in an environment of rising
mortgage rates and bank tightening. For a borrower earning $60,000 and
taking out a $200,000 mortgage, that 1 percentage point increase would
raise the monthly payment by roughly $120 and could raise the borrower
debt-to-income ratio (principle and interest only) from 27 percent to
29 percent, enough to disqualify them from many lending programs and
potentially under the terms of the qualified mortgage (QM) rule.\2\
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\2\ For this example a 30-year fixed rate of 4.25 percent is
assumed as well as a 5 percent down payment, 0.67 percent primary
mortgage insurance, $70 monthly homeowner's insurance, and 1 percent
real estate taxes.
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Researchers at the Federal Reserve Bank of St. Louis found similar
results in their analysis of trends in mortgage finance from 1940
through 1960.\3\ According to the study's authors, 8.5 percent of the
increase in home ownership from 45.5 percent to 62.5 percent was due to
the 85 basis point decline in cost of mortgage credit during this
period. African American, Latino Americans and first-time buyers who
utilized low down payment loans are more susceptible to a tightening of
credit and a resulting decline in ownership. Current homeowners seeking
to trade up and baby boomers looking to traded own also would not be
immune to the disruption as fewer qualified first-time buyers result in
reduced demand for the homes they would sell before purchasing again.
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\3\ Federal Reserve Bank of St. Louis. Did Housing Policies Cause
the Postwar Boom in Homeownership? By Matthew Chambers, Carlos Garriga
and Don Schlagenhauf. Available at: http://research.stlouisfed.org/wp/
2012/2012-021.pdf.
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A significant loss of home sales would have ramifications for the
economy. Roughly 700,000 to 900,000 fewer jobs would be created as a
result of a 1 percentage point increase in mortgage rates. This decline
in industry and construction incomes along with fewer expenditures on
services, renovations, appliances and other goods associated with home
purchases that would weigh on ancillary businesses and their decisions
to create jobs. Higher mortgage rates also hamper refinance activity,
which would hold back additional consumption spending.
As noted by the U.S. Department of the Treasury, it is important to
recognize the sovereign debt concerns in Europe, as well the sharp
downward revision to 1st quarter GDP in the United States, had an
impact on U.S. financial markets during the 2011 debt limit episode.\4\
Thus, the widening of mortgage spreads in 2011 was due in part to these
issues. However, those same concerns dropped Treasury yields, so on
balance, mortgage rates decreased even as the spreads widened. If
mortgage spreads widened today as a result of a debt ceiling impasse,
with Treasury yields rising, the negative consequence for borrowers
would be higher mortgage rates, which would curtail household spending
and prevent the housing market from contributing to our economic
recovery.
---------------------------------------------------------------------------
\4\ U.S. Department of the Treasury. The Potential Macroeconomic
Effect of Debt Ceiling Brinkmanship. By Sabrina Siddiqui. Available at:
http://www.treasury.gov/connect/blog/Pages/Report-on-Macroeconomic-
Effect-of-Debt-Ceiling-Brinkmanship.aspx. Accessed: 10/4/13.
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The Federal Reserve's ability to support the housing market could
be affected as well. The Federal Reserve has been purchasing $40
billion of mortgage backed securities and $45 billion in Treasuries per
month since the fall of 2012, but has indicated its intent to wind down
this program. A decline in Treasury prices could undermine the Federal
Reserve's ability to wind down its purchases in an orderly fashion,
potentially creating volatile movements in mortgage rates. In the long
term, lower Treasury and mortgage-backed security (MBS) prices could
hamper the Federal Reserve's ability to manage its significant holdings
of Treasuries and MBS. What's more, if weaker confidence in the
Treasury results in less and more erratic demand for it, the Federal
Reserve's open market operations would become more difficult, limiting
the Federal Reserve's ability to respond to the next crisis.
The impact of an actual default would have far greater and long-
lasting impact on interest rates on Treasuries than concerns about a
potential default during a temporary standoff.
High Mortgage Rates & Lower Consumer Confidence
Consumer spending is a key driver of our Nation's housing market
and overall economy. The consumer confidence index measures the degree
of optimism that consumers feel about the overall state of the economy
and their personal financial situation. Confidence in the stability of
their incomes affects consumer economic decisions, such as spending
activity, and therefore serves as one of the key indicators for the
overall shape of the economy.
In essence, if consumer confidence is high, consumers likely
purchase more goods and services. Conversely, if confidence is lower,
consumers tend to save more and spend less on goods and services. A
month-to-month trend in consumer confidence suggests the outlook of
consumers on their ability to find and retain good jobs according to
their perception of the current state of the economy and their personal
financial situation.
Falling stock values, weak employment numbers, and higher mortgage
rates can weigh on consumer confidence. This was evident during the
debt ceiling stalemate between June and August 2011. According to the
U.S. Department of the Treasury, consumer confidence eased in the
spring of 2011 over employment concerns before it plummeted 22 percent
in response to the impasse; it took several months after the debt limit
stalemate was resolved before consumer sentiment recovered.\5\ A home
is the largest and most complicated purchase of most consumers' lives.
A general decline in confidence would weigh on consumers.
---------------------------------------------------------------------------
\5\ U.S. Department of the Treasury. The Potential Macroeconomic
Effect of Debt Ceiling Brinkmanship. By Sabrina Siddiqui. Available at:
http://www.treasury.gov/connect/blog/Pages/Report-on-Macroeconomic-
Effect-of-Debt-Ceiling-Brinkmanship.aspx. Accessed: 10/4/13.
---------------------------------------------------------------------------
Just as with interest rates, the impact of an actual default would
have far greater and long-lasting impact on consumer confidence than
concerns about a potential default during a temporary standoff.
Mortgage Rates & Consumer Confidence Impact on Housing & Economy
Higher mortgage rates and lower consumer confidence are associated
with fewer home sales because the cost of borrowing goes up for
consumers. This mechanism is more relevant today given today's tighter
underwriting and debt-to-income requirements, as well as regulatory
requirements from the qualified mortgage (QM) rule. Home sales decline
when interest rates go up, and housing prices moderate as a result. As
seen in recent years, stagnant or falling prices weigh on sales growth
as buyers fear the value of their purchase may decline. Slow price
growth slows equity accumulation, forcing some consumers to pay
mortgage insurance longer, hampering refinancing during recessions, and
making owners more susceptible to default as a result of unemployment
or loss of income.
Interest rates tend to fall during recessions and eventually,
demand for housing and new construction increases as a result. This
pattern has been an important driver of U.S. economic expansions in
recent decades with the notable exception of the most recent episode.
Furthermore, the U.S. Treasury securities status as a safe or risk-free
store of wealth attracts capital especially during an economic and
fiscal crisis when investors shy away from riskier activities which
augments this pattern resulting in shallower recessions. A decline in
the Treasury securities low-risk of default status could reverse this
pattern.
Fewer home sales means less construction, less income from
transactions, and fewer purchase of appliances, renovations and the
services that accompany a purchase. As discussed earlier, this pattern
is circular as it weighs on the economy, job growth, and future home
ownership.
As previously noted, the impact of an actual default would have a
much more severe and drawn out effect on home prices and sales than
concerns about a potential default during a temporary standoff.
Challenges Facing the Housing Recovery
Luckily, our economy has been able to bounce back from the 2011
debt ceiling debate and home prices have increased 14.7 percent over
the 12-month period ending in August. However, they are still 7.6
percent lower than in August of 2006. Today, home prices have led to
positive gains in the net worth of homeowners, $18.6 trillion of which
is saved up in residential real estate. Rising home prices have also
cut the number of underwater homeowners by nearly half, but have put
pressure on potential home buyers who have not yet completed their home
purchase. Home sales rose 13.2 percent from August of 2012 to August of
2013, but are 24.2 percent below the level from August of 2006.
In addition to increases in home prices, mortgage rates have begun
their ascent from historically unprecedented lows. While mortgage rates
have stabilized recently due to the Federal Reserve's delay in the
tapering of asset purchases, all expectations of a healing housing
market and recovering economy point to higher mortgage rates ahead.
These two factors combined with meager increases in family income are
squeezing the affordability of homes. Affordability has plunged 18
percent to the lowest level since 2006. While affordability remains
above historic levels, a swift reduction will undoubtedly have an
impact on buyer options and psychology.
Consumer sentiment is already facing headwinds from rising interest
rates and the recent Government shutdown will likely be an additional
blow to consumer confidence and our economic recovery. Some economists
have predicted that a weeklong Government shutdown could slow GDP
growth by a quarter of a percent. Any longer shut down could result in
a more significant effect. In either case, U.S. economic expansion will
be more susceptible to the adverse effects from a debt limit impasse
than prior to the shutdown.
Conclusion
The U.S. housing sector is in the midst of recovering from the
worst economic downturn since the Great Depression. Home prices and
sales, as well as household wealth, are all up from a year ago. While
this industry continues to face many headwinds such as higher interest
rates and affordability challenges, maintaining the housing recovery
will be key to boosting economic and job growth, as it has in past
recoveries. This will only be possible if Congress has the willingness
to raise the debt limit in a timely manner.
We have already experienced the negative economic consequences from
even the prospect of a default during the debt ceiling impasse in 2011.
Let's not repeat this mistake again. More importantly, let's not allow
a debt limit impasse lead to the Unites States defaulting on its debt.
An actual default by the Federal Government along with a protracted
Government shutdown could have serious implications on the U.S. economy
and may result in a recession even more severe than any since the Great
Depression. This scenario may include higher interest rates, reduced
consumer spending and business investment, diminished household wealth,
and high unemployment levels that could last more than a generation.
______
PREPARED STATEMENT OF PAUL SCHOTT STEVENS
President and CEO, Investment Company Institute
October 10, 2013
Introduction
Chairman Johnson, Ranking Member Crapo, Members of the Committee,
thank you for the opportunity to appear before you once again. My name
is Paul Schott Stevens. I am President and CEO of the Investment
Company Institute, the national association of U.S. registered
investment companies, including mutual funds, closed-end funds,
exchange-traded funds, and unit investment trusts. Members of ICI
manage total assets of more than $15 trillion.
I am honored to appear before the Senate Committee on Banking,
Housing, and Urban Affairs to testify on the ``Impact of a Default on
Financial Stability and Economic Growth.''Members of ICI serve more
than 90 million shareholders, including half of all U.S. households.
Much of our policy work accordingly focuses on the effect that
actions--or inactions--in Washington have on investors and financial
markets.
Funds and their investors have a significant stake in the stability
and predictability of the market for U.S. Treasury securities. The most
recent ICI data show that as of June 30, funds registered under the
Investment Company Act of 1940 \1\ (1940 Act) held more than $1.7
trillion in securities issued by the Treasury and U.S. Government
agencies--accounting for more than 10 percent of their assets. Mutual
funds and their investors are not uniquely at risk, however, because
the health of the Treasury market underpins all financial markets. U.S.
Treasuries trade in the deepest, most liquid market in the world. Their
interest rates set the benchmark for other debt issuers--and as the
``risk-free rate of return,'' these rates factor into the pricing of a
wide range of other assets, including stocks and real estate.
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\1\ Data include mutual funds (long-term funds and money market
funds), exchange-traded funds, closed-end funds, and unit investment
trusts. Total net assets of these funds on June 30, 2013, were $15.4
trillion. ``Agency'' securities include those issued by the Federal
National Mortgage Association (Fannie Mae), the Federal Home Loan
Mortgage Corporation (Freddie Mac), the Federal Home Loan Banks, and
the Federal Farm Credit Banks.
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Today, fund advisers and the investors they serve are watching
Washington's approach to debt and deficits with alarm. They see on all
sides--at both ends of Pennsylvania Avenue--a lack of action on our
Nation's current fiscal policies.They are deeply concerned about the
potential results of this inaction.
After all, there are two things that individuals, households,
businesses large or small, or nations must do to maintain a high level
of creditworthiness:
They must pay their bills on time, when they come due; and
They must avoid taking on an unsupportable level of debt--
more debt than they can reasonably afford to service and pay.
For our Nation, a violation of either of those principles would be
ruinous. One failure--default, which we are here to discuss today--
could lead to a sudden crisis and degradation of the United States'
financial and economic standing. But the other failure--to bring our
debt under control--is equally insidious, equally destructive, and, on
current trends, even more likely.
With that perspective in mind, and on behalf of more than 90
million Americans saving and investing to meet their financial goals
through mutual funds, I am here today to state unequivocally that no
one should take lightly the prospect of a default on the United States'
debt obligations. The credit of the United States most emphatically
should not be put into question.
Let me say with equal force, however, that those who dismiss or
minimize our current budget problems also are playing with fire. The
risks they are taking may be less immediate, but they are no less
consequential--and the longer our Nation delays action, the larger and
more difficult the necessary corrective steps become.
My testimony that follows outlines the risks of a default on debt
for investors, including registered funds and their shareholders; our
economy; and our standing in the world. It then discusses the long-term
outlook for national debt and the hazards of failing to address our
budget imbalances.
The Uncharted Waters of a Treasury Default
Since September 2007, the gross national debt \2\ has risen by $7.9
trillion, or an average of $1.3 trillion each year. The debt ceiling
that is at issue today--$16.7 trillion--is 85 percent greater than the
debt 6 years ago. It is also larger than the U.S. economy--at 105
percent of GDP--for only the second time in our history, the first
being immediately after our Nation bore the costs of protecting freedom
in World War II.
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\2\ The debt ceiling applies to gross national debt, which includes
both debt held by the public and debt held by governmental agencies and
trust funds, most notably the Social Security Trust Fund and Government
retirement plans. Discussion of Federal debt and its economic impact
usually focuses on debt held by the public, which was $12.0 trillion as
of August 30, 2013. My testimony carefully distinguishes between these
two concepts.
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How has the United States managed to fund its national debt at such
historically high levels? Some factors are obvious. Our Nation has the
largest and one of the most dynamic economies in the world. Our stable
Government, steady social institutions, and strong rule of law help
make our securities a safe haven for investors. We actively promote the
free flow of capital around the globe--including substantial purchases
of U.S. Treasury securities by foreign investors. The dollar's status
as the world's reserve currency--used as a store of value for foreign
central banks and as the means of exchange to price such crucial
commodities as oil--makes Treasury securities an attractive holding for
those investors.
But one crucial element in the United States' success in funding
its debt is the Treasury market itself. U.S. Treasury securities trade
in the deepest, most liquid market in the world. Every day, trading in
Treasury securities just by ``primary dealers''--the 21 brokers with
which the Federal Reserve Bank of New York conducts open market
operations--exceeds $500 billion.
The Treasury market depends for its stability first, on the
unquestioned ``full faith and credit'' of the United States and second,
on the certainty of its regular operations. Both of those features are
at risk as Treasury runs through the ``extraordinary measures'' it has
used since mid-May to maintain sufficient financing for Government
operations. According to the Treasury Department's latest projections,
those measures will be exhausted by October 17--one week from today.
I will leave it to others to describe the mechanics of what will
happen if the debt ceiling is not raised by that date. I also will
avoid parsing the differences among ``technical default,'' ``selective
default,'' and ``actual default,'' or whether missing a Social Security
payment is equivalent to missing an interest payment or failing to
redeem a maturing Treasury bill.
All such discussion misses the key point: the United States, like
any other major debtor, must maintain the confidence of its creditors--
or risk the consequences.
What makes the Treasury market so deep and so liquid is the
certainty of investors that the U.S. Treasury will pay its obligations,
on time and in full, when interest or principal become due. Whether
corporate treasurer, fund manager, or retiree, an investor holding a
Treasury bill, note, or bond has always known that an upcoming interest
payment or maturing security is ``as good as cash.''
Conversely, investors with cash know that the Treasury Department
auctions new debt securities on a predetermined, regular schedule. This
predictability is another strength of this market.
If the debt ceiling is not increased and at some point the Treasury
cannot honor an interest payment or redeem a maturing security,
investors holding affected securities will not have the cash they
expect. If they have cash needs, they must find a buyer willing to
assume the risk of an uncertain date for payment. Risk and uncertainty
always bear a price, so the original Treasury investor must suffer a
loss on securities that were deemed ``as good as cash.''
Once Treasury has exercised the option to delay payments, investors
will learn a lesson that cannot and will not be unlearned--even after
all missed or delayed payments have been made good. That lesson is
simple: Treasury securities are no longer as good as cash--they carry a
future risk of further missed payments. That risk will be priced into
the interest rate that investors demand, and into traders' reluctance
to treat Treasuries as liquid.
We already can see early signs of these effects developing in the
market, as the October 17 debt-ceiling deadline approaches. Unsure
about its future ability to borrow, the Treasury Department is scaling
back its auctions of bills--squeezing the supply of securities that are
in high demand and undermining the predictability of Treasury issuance.
Rates on the Treasury securities most at risk have risen sharply.
Yields on Treasury securities maturing between October 17 and October
31 rose from around 2 basis points on September 24 to between 20 and 25
basis points on October 8. The price of credit default swaps on 6-month
and 1-year Treasury securities--basically, the premium for insurance
against default on those securities--hovered between $11,000 and
$12,000 per $10 million of coverage in mid-September. By this week,
these premiums were over $50,000.
We saw similar rate spikes in 2011, when a previous stalemate over
the debt ceiling brought the United States to the edge of default. In
the weeks before the 2011 debt ceiling impasse was resolved, yields on
maturing Treasury securities rose sharply. The rate on the Treasury
bill set to mature on August 4, 2011, climbed from slightly above zero
in early July to almost 30 basis points by the end of that month. Even
as Congress and the White House averted a default, the confrontation
reflected so badly on the Nation that Standard & Poor's felt compelled
to issue its historic downgrade of the United States' AAA sovereign
debt rating.
The effects of a default would quickly spill beyond the Treasury
markets and into the broader economy. As noted, failure to meet
interest payments or to redeem maturing Treasury securities could
directly hit the finances of those who depend on Treasuries in their
cash management--individuals, businesses, nonprofit institutions, and
State and local governments. These entities in turn may struggle to
meet their obligations to suppliers and creditors, undermining economic
activity and damaging confidence.
When the asset valued by millions of investors for its ``risk-
free'' nature suddenly assumes unanticipated risk of illiquidity or
default, these investors and others will rapidly adjust their
expectations--and grow increasingly cautious. Rising rates on Treasury
securities could be expected to drive up interest rates for other
borrowers and increase the cost of capital for corporate issuers and
State and local governments. Home buyers hoping to price mortgages
during the default period could face unpredictable swings in rates, and
other variable-rate household borrowing could be affected.
The damage would not be limited to our shores. The U.S. dollar is
the world's reserve currency not because foreign banks and investors
own huge stacks of greenbacks, but because they have access to highly
liquid, low-risk securities denominated in dollars--namely, Treasuries.
Default, as Fitch Ratings has noted, would undermine ``investor
confidence in the full faith and credit of the United States . . . This
`faith' is a key underpinning of the U.S. dollar's global reserve
currency status and reason why the U.S. `AAA' rating can tolerate a
substantially higher level of public debt than other `AAA'
sovereigns.'' Lack of confidence in U.S. Treasuries is likely to reduce
the value of the dollar relative to other currencies below what it
otherwise would be.
These multiple shocks--cash shortfalls, higher interest rates,
diminished confidence, and international impacts--would be likely to
undermine economic activity and growth. Their effects would also
persist well beyond any resolution of the debt ceiling standoff and
repair of defaults.
How would this turmoil affect registered funds and their investors?
Since the earliest days of the American Republic, mutual funds have
been engaged in the markets for U.S. Government debt. In 1788, a pair
of bankers in Amsterdam organized the first of what became more than 30
investment trusts formed to speculate on the debts issued to finance
the Revolution by the Continental Congress, the Continental Army's
quartermaster and commissary corps, and the States. These complicated
schemes could be ``possible only as long as the United States did not
default on its interest payments.''\3\ Fortunately, even in those shaky
early days of independence, the United States honored its obligations--
and it has done so ever since.
---------------------------------------------------------------------------
\3\ ``The Origin of Mutual Funds,'' in The Origins of Value: The
Financial Innovations That Created Modern Capital Markets (William N.
Goetzmann and K. Geert Rouwenhorst eds., Oxford University Press 2005),
at 264.
---------------------------------------------------------------------------
Earlier, I reported that funds registered under the 1940 Act held
more than 10 percent of their assets in Treasury and U.S. Government
agency securities. Such holdings are pervasive--as of June 30, 30
percent of mutual funds held these securities--as even equity funds
rely upon Treasury securities for cash management and liquidity. The 90
million Americans invested in funds thus share significantly in the
risks associated with a Treasury default.
It is important to note, however, that registered funds and their
investors are not uniquely at risk. Nothing about the structure or
activities of registered funds makes them or their investors any more
vulnerable to the hazards of a Treasury default than any other
investment product or investor. The damage of a default--or even of a
second near-miss in a little over 2 years' time--would be visited upon
every American who saves, who borrows, or who participates in the
economy. No class of Americans will be immune to the impact.
Given these effects, let me repeat my earlier message: no one
should take lightly the prospect of a default on the United States'
debt obligations. The credit of the United States emphatically should
not be put into question.
Outlook for Fiscal Policy and the Risks of `Slow Default'
The first fiscal year of the United States government was 1789. The
national debt held by the public \4\ did not reach $1 trillion until
1983--the 194th fiscal year in our history. Contrast that with our
recent history: in four of the last 5 years (2009 through 2012), debt
held by the public grew by more than $1 trillion.\5\
---------------------------------------------------------------------------
\4\ As noted previously (Note 2), debt held by the public is the
concept most commonly used in discussions of budget policy and its
economic impacts. CBO's long-term projections, for example, are
expressed in terms of debt held by the public. The discussion in this
section will follow that convention.
\5\ White House Office of Management and Budget, ``Historical
Tables,'' Table 7.1, available at http://www.whitehouse.gov/omb/budget/
Historicals.
---------------------------------------------------------------------------
The massive deficits of the past several years were accumulated as
our Government fought the financial crisis and the subsequent recession
and slow recovery. Future economists and historians will have to sort
out whether these huge deficits were justified or had the effects that
their advocates have claimed for them. However that may be, even the
most ardent supporters of fiscal stimulus, beginning with John Maynard
Keynes, would tell you that budget deficits incurred to counter a
recession should be a temporary expedient.
The tax and spending bargains reached so painfully in the past 3
years have slowed the growth of debt, at least for the short term. But
CBO's latest long-term projections show that progress will be short-
lived: by 2018, the debt held by the public will be rising again as a
share of GDP. After that, CBO notes, ``growing deficits would
ultimately push debt back above its current high level.'' CBO projects
that by 2038, under current law and budgetary policies, Federal debt
held by the public will reach 108 percent of GDP.\6\
---------------------------------------------------------------------------
\6\ Congressional Budget Office, The 2013 Long-Term Budget Outlook,
September 19, 2013 (``CBO, Long-Term Budget Outlook''), available at
http://www.cbo.gov/sites/default/files/cbofiles/attachments/44521-
LTBO2013.pdf, at 3.
---------------------------------------------------------------------------
CBO also estimates an ``extended alternative fiscal scenario'' that
projects deficits and debt under arguably more realistic budget
assumptions: that the current spending caps of sequestration end, that
spending constraints on Medicare and other Federal health programs are
not maintained, and that discretionary spending resumes its historic
growth rates. Under this alternative scenario, CBO projects that debt
will reach 190 percent of GDP in 2038.\7\
---------------------------------------------------------------------------
\7\ Id. at 84.
---------------------------------------------------------------------------
Those two projections are based on CBO's best estimate of the
impact of deficits and debt on economic growth. CBO points out that its
projections are very sensitive to its forecasts of interest rates and
economic growth. Moderate changes in those projections can drive the
estimates of the debt burden up or down significantly.
For example, CBO estimates that a 75 basis point increase in
interest rates over its forecast would drive the debt held by the
public to 132 percent of GDP in 2038, compared to 108 percent of GDP in
the current-law baseline.\8\ Similarly, a reduction in the long-term
economic growth rate of 0.5 percentage point drives the debt held by
the public to 156 percent of GDP in 2038.\9\
---------------------------------------------------------------------------
\8\ Id. at 97.
\9\ Id. at 95.
---------------------------------------------------------------------------
Let me point out two events that could make these downside risks
more likely--resulting in a greater debt burden than CBO's baseline.
First, nearly half of the debt held by the public is held by
foreign investors. A rapid change in foreign investors' willingness to
hold Treasuries could significantly increase the Government's interest
costs, in excess of the rates CBO used in its forecasts.
The sensitivity of interest rates has been demonstrated by recent
events involving the Federal Reserve--the largest domestic holder of
tradable Treasury securities, holding $2.1 trillion as of October
3.\10\ The mere suggestion by Fed officials earlier this year that they
would slow purchases of Treasury bonds under their'' quantitative
easing'' policies drove interest rates on the 10-year Treasury bond up
by as much as 125 basis points (1.25 percentage points).
---------------------------------------------------------------------------
\10\ Federal Reserve Board, ``Factors Affecting Reserve Balances:
Federal Reserve Statistical Release H.4.1,'' October 3, 2013, available
at http://www.Federalreserve.gov/releases/h41/current/h41.htm#h41tab1.
---------------------------------------------------------------------------
A second event that could worsen the debt outlook would be a larger
than anticipated impact of the higher debt burden on economic growth.
Economists generally agree that high levels of Government debt are
associated with slower economic growth,\11\ but the mechanisms through
which higher debt levels may cause economic growth to slow are not
fully understood. A more sluggish pace of economic growth could cause
the debt burden to worsen more than the baseline forecast.
---------------------------------------------------------------------------
\11\ Carmen M. Reinhart, Vincent R. Reinhart, and Kenneth S.
Rogoff, ``Public Debt Overhangs: Advanced-Economy Episodes Since
1800,'' 26 The Journal of Economic Perspectives 69, Summer 2012.
---------------------------------------------------------------------------
Beyond these worrisome events, we must also recognize that the
composition of our Federal budget is shifting in ways that will make it
increasingly difficult to establish and maintain any discipline on
spending. This trend involves the accelerating trajectory of growth for
``mandatory spending''--programs, such as Social Security, Medicare,
and veterans' benefits, which are funded automatically each year. It is
these programs, outside the annual spending process, that increasingly
drive the Federal budget.
In its near-term forecast for 2014 to 2023, CBO projects that
mandatory outlays will represent 61 percent of Federal spending over
the next 10 years.\12\ Interest payments on the national debt--another
unavoidable cost--will account for 11 percent. Discretionary spending
will account for just about one-quarter of Federal spending--27
percent. In fact, mandatory spending has become so dominant that
eliminating all nondefense discretionary spending would just barely
balance the budget over the forecast period.
---------------------------------------------------------------------------
\12\ ICI calculations based on Congressional Budget Office,
``Updated Budget Projections: Fiscal Years 2013 to 2023,'' available at
http://www.cbo.gov/sites/default/files/cbofiles/attachments/44172-
Baseline2.pdf.
---------------------------------------------------------------------------
The dominance of mandatory spending is growing. By 2038, CBO says,
Federal spending for health care and Social Security will be running at
twice the average level of the past 40 years, while ``total spending on
everything other than the major health care programs, Social Security,
and net interest payments would decline to . . . a smaller share of the
economy than at any time since the late 1930s'' (emphasis added).\13\
---------------------------------------------------------------------------
\13\ CBO, Long-Term Budget Outlook, supra note 6, at 3.
---------------------------------------------------------------------------
It is inconceivable that the U.S. electorate or political system
would allow the discretionary activities of the Federal Government--
defense and domestic alike--to shrink to the scale that prevailed prior
to World War II. Given that reality, it is difficult to maintain even
the relatively pessimistic view of the CBO's baseline projection for
the course of the national debt, absent significant reform and controls
on mandatory spending.
Rather than address the growth of mandatory spending, however,
recent policy has tended to tilt the balance further. The automatic
cuts of sequestration, for example, apply only to discretionary
spending--leaving mandatory programs unscathed.
Let me be clear--the programs funded through mandatory spending are
very important. For example, on many occasions, ICI has expressed
strong support for Social Security as the foundation of Americans'
retirement security. Fulfilling our social contract by putting Social
Security on a sustainable footing for the indefinite future is nothing
less than a moral obligation.
But paying our own bills--as a Nation, as a generation--that, too,
is a moral obligation. The Father of Our Country, George Washington,
warned against ``ungenerously throwing upon posterity the burden which
we ourselves ought to bear.''\14\ Yet that is exactly the course that
we are following.
---------------------------------------------------------------------------
\14\ ``Washington's Farewell Address 1796,'' posted by The Avalon
Project, Lillian Goldman Law Library, Yale Law School, available at
http://avalon.law.yale.edu/18th_century/washing.asp. For a more
complete discussion of Washington's views on the national debt, as
expressed in his Farewell Address, see Paul Schott Stevens, ``
`Warnings of a Parting Friend: Today's Fiscal Crisis and U.S. National
Security,' '' National Strategy Forum Review, Winter-Spring 2012, at
20; available at http://www.nationalstrategy.com/Portals/0/documents/
Winter-Spring%202012/Stevens-Warnings%20of%20a%20Parting%20Friend.pdf.
---------------------------------------------------------------------------
Conclusion
The imperative need to increase the national debt ceiling and
ensure that Treasury can borrow to finance the Government focuses
urgent attention on the prospects and consequences of a default on
Treasury securities. Make no mistake: that is an event our Nation must
avoid. For generation after generation, since 1789, the United States
has stood behind its financial obligations. Ours should not be the
generation that fails to do so.
It is no less imperative, however, to focus on the less dramatic--
but equally insidious--threat that our Nation faces from growing and
unsustainable levels of debt. Even the relatively optimistic CBO
baseline forecast paints a dire picture. The longer we delay decisive
action, the worse our problems become and the harder they are to fix.
The 90 million American investors that ICI's member funds serve are
investing for a brighter future--a secure retirement, a better
education, or a solid financial foundation. They need responsible
action by their Government to protect the health of the economy and the
financial markets on which they depend. They want Congress and the
Administration to work together to put America on a path of fiscal
responsibility.
The health of our markets, the prosperity of our Nation, and the
security of future generations all depend upon it.
Thank you for your attention.
RESPONSE TO WRITTEN QUESTIONS OF SENATOR COBURN FROM FRANK
KEATING
Q.1. Since Congress has in the past always raised the debt
limit in a timely manner, is it your opinion that during these
discussions, or in the future, we will at some point deviate
from this behavior? Why or why not?
A.1. Although Congress has never allowed debt limit debate to
lead to an actual default, even approaching the deadline has
severe consequences. Make no mistake, every time the U.S.
government's willingness to pay its bills is questioned, there
is a real cost to both taxpayers and the economy.
The Bipartisan Policy Center (of which I am a board member)
estimated the 2011 debt standoff cost taxpayers close to $20
billion as nervous investors demanded higher interest on U.S.
Treasury bonds to account for the risk of Government default.
S&P highlighted this as additional risk when it stripped us of
our coveted triple-A rating citing willingness to pay, not
ability.
Even the slightest uptick in Treasury interest rates would
cascade through the economy. It would raise the costs for
taxpayers to service our country's debt and would raise the
cost of borrowing for businesses, meaning job losses and price
increases. Default would be a blow to retirement funds, leaving
fewer resources available for retirees. For banks, which hold
$3 trillion in Treasury, agency and mortgage-backed securities,
the sharp decline in value of those securities would translate
into fewer resources available for mortgages, business, auto,
credit card and student loans.
Although Congress has never allowed the U.S. government to
default on its debts, any debate that creates uncertainty has
real costs, felt across the country. We need to change the way
these discussions are held, or risk more self-inflicted
injuries that will further undermine our still-fragile economic
recovery.
Q.2. Do you believe Congress should reduce the deficit and
begin toward the path of reducing the debt? If yes, and if the
debt limit discussion is not the appropriate venue to discuss
deficit reduction, what budgetary pressure points do you
believe should be used by Congress to bring about legislative
changes needed to enact meaningful deficit reduction?
A.2. The debt limit has risen twice as fast as the economy has
grown in the last two years. While our debt has increased
roughly $2.4 trillion, our increase in GDP has been less than
half that. As our standard of living continues to decline, and
the Government continues to borrow beyond its means, at what
point do you believe our lenders stop lending money? If this
were to occur, what would be the financial and economic impact
on your particular industry?
There should be a wholesome debate about how taxpayer
dollars are spent in the future. We need to be sure that those
precious tax dollars from hardworking American's are used in
the most productive way possible. But we should not confuse the
need to pay our bills for things that Congress has already
approved and spent with the management of spending that is
appropriate for the future.
To use a credit card analogy, the decision about what to
buy on credit tomorrow must take into account the debt we
already owe, but that is never an excuse for not paying the
current bill on time and in full.
Markets, not Congress, truly determine our Government's
ability to borrow. Our debt is already 70 percent of our GDP.
While the sequester is expected to reduce debt-to-GDP for a few
years, even it fails to arrest the longer-term upward
trajectory. According to the Congressional Budget Office (CBO),
by the year 2043 entitlement programs and debt service payments
alone are projected to outstrip revenues. This means that there
will be no funds at all for any discretionary spending. It is
impossible to address the long-term sustainability of our debt
without addressing the growing costs associated with our
entitlement programs.
The CBO predicts that in the next 25 years our debt will
surpass 100 percent of our GDP. This would put us in the same
league as the fiscally unstable countries that led Europe into
crisis. Already, the U.S. debt amounts to nearly $54,000 per
person, and $148,000 per taxpayer. The interest payments alone
on our debt will cost over $8,000 per U.S. citizen in 2013.
Addressing future spending and bringing our debt down to
sustainable levels must be done in a bipartisan way. My
experience serving on the Domenici-Rivlin commission gives me
hope that tough decisions can be made for the good of our
country.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR COBURN FROM KENNETH E.
BENTSEN, JR.
Q.1. Since Congress has in the past always raised the debt
limit in a timely manner, is it your opinion that during these
discussions, or in the future, we will at some point deviate
from this behavior? Why or why not?
A.1. We believe it is vitally important for the Government to
make good on its financial obligations and not default in any
manner. The consequences of a delay or failure to raise the
debt ceiling creates significant uncertainty throughout the
financial markets, raises the cost of borrowing for the U.S.
Government, and threatens the continued benchmark status of
Treasury securities. As has been documented by the GAO and the
Bipartisan Policy Council, the 2011 delay in raising the debt
ceiling increased Treasury borrowing costs by $1.3 billion in
2011 with 10-year costs estimated at $19 billion. In the most
recent run-up to the debt ceiling deadline Treasury borrowing
rates for short-term bills increased significantly just one
month previous. For example, on October 9 the Treasury
auctioned a five-day cash management bill at 30 basis points;
one month before, on September 10 the Treasury had auctioned a
five-day cash management bill at 4 basis points. Also, in the
weeks immediately preceding the October 2013 deadline short
term rates, particularly in the repo market, rose
significantly. As wholesale funding costs rise in the repo
market, the cost of credit throughout the economy will rise.
Given the expectations in the market that Treasury will pay its
debt timely, the consequences of any delay raise cost
throughout the economy unnecessarily.
Q.2. Do you believe Congress should reduce the deficit and
begin toward the path of reducing the debt? If yes, and if the
debt limit discussion is not the appropriate venue to discuss
deficit reduction, what budgetary pressure points do you
believe should be used by Congress to bring about legislative
changes needed to enact meaningful deficit reduction?
A.2. SIFMA believes that Congress and the Administration must
come together and develop a plan to substantially reduce our
long-term budget deficits with a goal of at least stabilizing
our Nation's debt as a percentage of GDP--which, we recognize,
will entail difficult choices for policymakers. The resulting
plan must be long-term, predictable and binding. The financial
markets and Main Street businesses need confidence that the
long-term fiscal outlook will be addressed.
Q.3. The debt limit has risen twice as fast as the economy has
grown in the last two years. While our debt has increased
roughly $2.4 trillion, our increase in GDP has been less than
half that. As our standard of living continues to decline, and
the Government continues to borrow beyond its means, at what
point do you believe our lenders stop lending money? If this
were to occur, what would be the financial and economic impact
on your particular industry?
A.3. Default, delays in payments, weak Treasury auctions, and a
perception that policymakers are unable to deal with either
short or long-term fiscal issues, could result in a reduction
in foreign purchases of Treasury securities, or sell offs of
existing foreign holdings. Foreign investors, most notably
foreign governments and central banks, hold 40% of outstanding
Treasury debt or about $5.6 trillion of the currently
outstanding debt. Foreign investors would be less likely to
participate aggressively at auction and may sell current
holdings to reduce exposure. The truly unprecedented nature of
a failure to make timely payment on Treasury debt would have
thrown markets into disarray by undermining the important
benchmark characteristics of Treasury debt.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR COBURN FROM GARY
THOMAS
Q.1. Since Congress has in the past always raised the debt
limit in a timely manner, is it your opinion that during these
discussions, or in the future, we will at some point deviate
from this behavior? Why or why not?
A.1. We certainly hope Congress will continue to raise the debt
ceiling in a timely manner; however, we remain concerned that
congressional gridlock over raising the debt ceiling has
unintended consequences which may harm the housing market. A
default, or even the perceived threat of a default, could
result in a harsh and long-lasting recession, which may be even
more severe than the previous economic downturn. As the U.S.
Treasury and others have stated, political brinkmanship during
the 2011 debt ceiling was responsible for financial market
disruptions, reduced consumer and business confidence, and
slower job growth. Even though lawmakers were able to raise the
debt limit before the Treasury expended its remaining cash on
hand, we worry that continued political gridlock could cause
our economic recovery to freeze.
Q.2. Do you believe Congress should reduce the deficit and
begin toward the path of reducing the debt? If yes, and if the
debt limit discussion is not the appropriate venue to discuss
deficit reduction, what budgetary pressure points do you
believe should be used by Congress to bring about legislative
changes needed to enact meaningful deficit reduction?
A.2. We believe that Congress should continue to debate about
how best to continue the path of reducing the deficit and
ultimately the debt. Again, our concern is that even the hint
that the United States might not pay some or all of its debts
could hinder our nascent economic recovery and damage the
fragile housing market.
Q.3. The debt limit has risen twice as fast as the economy has
grown in the last two years. While our debt has increased
roughly $2.4 trillion, our increase in GDP has been less than
half that. As our standard of living continues to decline, and
the Government continues to borrow beyond its means, at what
point do you believe our lenders stop lending money? If this
were to occur, what would be the financial and economic impact
on your particular industry?
A.3. Predicting if or when our creditors will stop lending to
the United States is beyond the capability of our organization.
However, if the United States were unable to borrow at all, we
anticipate it would be devastating to the real estate industry
and for our overall economy.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR COBURN FROM PAUL
SCHOTT STEVENS
Q.1. Since Congress has in the past always raised the debt
limit in a timely manner, is it your opinion that during these
discussions, or in the future, we will at some point deviate
from this behavior? Why or why not?
A.1. If the Government is spending more than its revenues,
failing to raise the debt ceiling means that the United States
does not pay someone for services rendered or debts owed bond
holders, businesses, contractors, businesses, Government
workers, etc. Reneging on any payment owed will imperil the
finances of those who are due the payments.
And once the Treasury has exercised the option to delay
debt payments, investors will learn a lesson that cannot be
unlearned, even after all missed or delayed payments have been
made good. One crucial element of the United States' success in
funding its debt is the Treasury market itself. The Treasury
market depends for its stability on the ``full faith and
credit'' of the United States and certainty of its regular
operations. The United States, like any other debtor, must
maintain the confidence of its creditors or risk consequences.
Treasury securities will carry a future risk further missed
payments, and that risk will be priced into the interest rate.
Not raising the debt limit when the Government is spending
more than its revenues would put into question the credit
worthiness of the United States. The credit of the United
States should not be put into question.
Q.2. Do you believe Congress should reduce the deficit and
begin toward the path of reducing the debt? If yes, and if the
debt limit discussion is not the appropriate venue to discuss
deficit reduction, what budgetary pressure points do you
believe should be used by Congress to bring about legislative
changes needed to enact meaningful deficit reduction?
A.2. As I indicated in my testimony, the failure of the United
States to bring our debt under control is as insidious and
destructive as missing a debt payment, and on current trends
seem seven more likely. It is imperative for our Nation to face
the growing and increasingly unsustainable levels of national
debt. The longer we delay decisive action, the worse our
problems become and the harder they are to fix.
As I noted in an answer to Senator Warren's question, it is
certainly appropriate, and even valuable to have a debt ceiling
to focus our attention on the urgent need finances.
Nevertheless, for the Treasury to spend more than its revenues
requires debt to finance that gap, and ultimately an increase
in the debt ceiling.
Q.3. The debt limit has risen twice as fast as the economy has
grown in the last 2 years. While our debt has increased roughly
$2.4 trillion, our increase in GDP has been less than half
that. As our standard of living continues to decline, and the
Government continues to borrow beyond its means, at what point
do you believe our lenders stop lending money? If this were to
occur, what would be the financial and economic impact on your
particular industry?
A.3. It is not easy to predict exactly where the tipping point
is when our debtors stop lending money. Nearly half of the U.S.
Government's public debt is held by foreigners. A rapid change
in foreign investor's willingness to hold Treasuries could
significantly increase the Government's interest costs and
seriously impair our Nation's ability to fund vital
expenditures. Should we reach such a tipping point, the
consequences would extend well beyond our 90 million fund
investors, and would imperil our economy and security more
broadly.