Debt Ceiling Congressional Chicken And How The Fed Might Respond

Republicans and Democrats are playing "Debt Ceiling Chicken". The Fed has an emergency plan on deck.

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Emergency Playbook

It is my strong opinion that either the Republicans or Democrats will blink (most likely the Democrats), but let's take a look at the Fed's Emergency Playbook in case I am wrong.

A crisis-management playbook Federal Reserve officials created years ago could guide their response this fall if the federal government can’t pay all its bills because of a political standoff over raising the federal debt limit.

The options include the Fed buying Treasury securities in default on the open market and selling Treasurys owned by the Fed to counteract potentially severe strains in financial markets, according to the transcript of an October 2013 conference call.

Among the officials who said those steps shouldn’t be ruled out were Jerome Powell —the central bank’s current chairman who was then a Fed governor—and Janet Yellen —the current Treasury secretary who was then Fed vice chairwoman.

Mr. Powell called some measures “loathsome” and others called them “repugnant” or “beyond the pale” for two main reasons. First, they would pierce the Fed’s institutional preference to avoid directly financing the government, often referred to as its independence from fiscal policy. Second, Fed officials worried if such contingency planning became public, elected officials might feel less urgency to raise the debt limit.

“These are decisions you really, really don’t ever want to have to make,” Mr. Powell said on the call. “The institutional risk would be huge. The economics of it are right, but you’d be stepping into this difficult political world and looking like you are making the problem go away.”

Debt Ceiling Deja Vu

I discussed this setup in detail, but not the emergency plan, on September 22 in Another Debt Ceiling Non Crisis Deja Vu Or Does This One Matter?

• In a WSJ Op-Ed, Treasury Secretary Janet Yellen says Congress, Raise the Debt Limit
• CNN says Democrats face GOP blockage on raising debt ceiling as time is running out
• Fox News reports Yellen warns failure to raise debt ceiling could trigger 'economic catastrophe'
• The Washington Post says U.S. default this fall would cost 6 million jobs, wipe out $15 trillion in wealth, study says

Congress and the White House have changed the debt ceiling almost 100 times since the end of World War II, according to the Committee for a Responsible Federal Budget. 

Time On the Clock

The US will not turn into a pumpkin on Oct 1. Moody’s “best estimate” is October 20. 

There might even be more time.

X Date Range

The Bipartisan Policy Center has this projection.