Jack or Ben may have to break the law to save the country.
Barring a breakthrough in the debt-ceiling debacle that began to show some signs of hope late Wednesday, Treasury Secretary Jack Lew and Federal Reserve boss Ben Bernanke are up against it trying to keep the US from defaulting, experts said.
If Lew decides to thumb his nose at Congress and issue more debt to pay its creditors, it might violate the Second Liberty Bond Act of 1917, said Garrett Epps, a constitutional law professor at the University of Baltimore.
“Because the debt-ceiling law says we can’t borrow more money, then he’s breaking that law,” Epps said.
Some Washington insiders and Wall Streeters are talking about a second option to avoid a default: looking to Bernanke to lend money to the Treasury.
But, it turns out, under normal circumstances, lending to the US Treasury is illegal under the Federal Reserve Act.
But Cullen Roche, founder of the Orcam Financial Group and an expert on monetary policy, believes that in this emergency Bernanke could play a get-out-of-jail-free card.
“If the options are default or no default then I think the Fed should exercise what’s called the ‘exigent circumstances’ clause [of the Federal Reserve Act] and lend directly to the US Treasury,” said Roche.
“They did this with Bear Stearns and AIG [in the 2007-2008 financial crisis] so I think saving the US government is a bit more important than those two entities.
“By having the Fed lend to the US Treasury, you circumvent having the Treasury issue more bonds. In this case the Fed is just issuing loans and crediting the Treasury’s account. And it puts the Fed in the hot seat by being the entity creating the agenda here rather than having the Treasury sell bonds in a normal auction process, thereby breaching the debt ceiling.”
Of course, Lew does have a third option, albeit much less palatable: letting the US default on the debt.
But even that could be illegal under the 14th Amendment, which holds that “the validity of the public debt” of the US “shall not be questioned.”
“If he didn’t pay the debt, he’d be breaking the 14th amendment,” Epps said. “And he’d be violating any number of laws directing him to pay the debt. Anybody having claims against the US would be able to sue the US.”
“They have to break a law. Full stop,” a recent Morgan Stanley economics research report concluded when addressing how Lew or Bernanke can deal with coming debts in light of a frozen debt ceiling.
Epps and many other scholars think there could be a fourth path around the debt ceiling issue: a presidential edict that claims a default is not permitted.
But that’s a long shot, Epps said, because it’s fraught with danger.
If President Obama were to try to override Congress to fulfill that commitment, he would likely face impeachment charges from Congressional Republicans, he said.