Have We Seen This Movie Before?

Earlier this year The Financial Review presented a paper by Professors Terry Zivney and Richard Marcus entitled “The Day The United States Defaulted on Treasury Bills”.  It happened under Jimmy Carter.

Here’s how my old friend, Don Marron, summed up the key points of the paper back in May: Investors in T-bills maturing April 26, 1979 were told that the U.S. Treasury could not make its payments on maturing securities to individual investors. The Treasury was also late in redeeming T-bills which become due on May 3 and May 10, 1979. The Treasury blamed this delay on an unprecedented volume of participation by small investors, on failure of Congress to act in a timely fashion on the debt ceiling legislation in April, and on an unanticipated failure of word processing equipment used to prepare check schedules.

The United States thus defaulted because Treasury’s back office was on the fritz.

This default was, of course, temporary. Treasury did pay these T-bills after a short delay.  But it balked at paying additional interest to cover the period of delay. According to Zivney and Marcus, it required both legal arm twisting and new legislation before Treasury made all investors whole for that additional interest.

The paper went on to note that even that very small, very brief default forced Treasury rates higher by 60 basis points – not on the $120 million defaulted on, but on the entire $800 billion treasury debt then outstanding. That premium stayed on treasuries long after the crisis ended. Those 60 basis points would be very expensive on today’s trillions of dollars. Pass the popcorn as the show in Washington continues.

Cashin’s Comments 7.26.11, Art Cashin UBS Financial Service

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