The US Government’s ‘Enron’ Folly’

30 Aug

Seal of the United States Department of the Tr...

Seal of the United States Department of the Treasury (Photo credit: Wikipedia)

At the end of July it was disturbing to learn that the federal government had reported debt that has remained constant for more than 70 days despite issuing more debt than it had redeemed during that same period. The debt limit is currently just under $16.7 trillion, and the Treasury claimed to have maintained a debt level with just over $25 million of debt clearance remaining despite issuing $53.267 billion more in debt than it redeemed over this same period (or over 2000 times the debt clearance that was maintained).

How is this possible, you might ask? It seems that the United States Department of Treasury takes its inspiration from Enron when it comes to managing debt.

While the Enron scandal is complex, there are three major aspects which led to its meteoric rise and sudden failure: (1) Enron chose an unconventional definition for revenue in risk-management services, which resulted in higher reported revenue than was warranted; (2) aggressive use of mark-to-market accounting, which allowed them to report overestimated future revenue at the time a contract was signed; and (3) unscrupulous leaders like Jeffrey Skilling and Andrew Fastow who were willing to use a shell game to hide debt from investors by removing it from Enron’s balance sheet and (illegally) attributing debt to businesses created specifically as places to park debt.

As the public became aware that the cash flow did not match the numbers the company reported, the façade disintegrated and “Enron” transformed from Fortune 50 to shorthand for corporate scandal. Executives went to prison, bankruptcy law was changed to prevent white-collar criminals from protecting their gains and, perhaps most significant, Sarbanes-Oxley was passed.

Bankruptcy is an area of law the Constitution assigns to the federal government, and Sarbanes-Oxley was the federal government’s response to the accounting aspects of the Enron scandal. Given the strong reaction from the federal government to Enron, it is safe to assume that Congress does not approve of the shell game used to hide debt on corporate balance sheets.

With the government’s opposition to manipulating balance sheets in mind, consider that the United States has passed 100 days with the debt at the same level. This despite Treasury simultaneously reporting a July deficit of $98 billion—somehow Treasury spent $98 billion more than it took in during the month of July alone without the debt rising a single penny. How is this possible? Answering this question is complicated: When the national debt approaches the debt ceiling, the U.S. Department of the Treasury resorts to the aforementioned extraordinary measures. Although often referred by those in the media as an attempt to avoid default, this is highly inaccurate and usually intentionally so.

Allow me to explain. Treasury takes in enough each month to cover its debt obligations, meaning default is never a risk. However, a partial government shutdown is necessary as the federal government cannot run as currently staffed for one day without increasing debt. The extraordinary measures are intended to keep the status quo in government until politicians are finally forced to raise the debt ceiling. But how do these extraordinary measures keep the debt from rising?

On December 26, 2012, Treasury released an explanation of its options:

The extraordinary measures currently available are: (1) suspending sales of State and Local Government Series Treasury securities; (2) determining that a “debt issuance suspension period” exists, which permits the redemption of existing, and the suspension of new, investments of the Civil Service Retirement and Disability Fund and the Postal Service Retirees Health Benefit Fund; (3) suspending reinvestment of the Government Securities Investment Fund and (4) suspending reinvestment of the Exchange Stabilization Fund. These measures are described in more detail below.

The first two options deal with suspending issuance of certain types of debt. While this would reduce the growth of U.S. debt, this does not offset the issuance of $53.267 billion in additional debt. Therefore, the third and fourth options must be what Treasury is using to avoid increasing U.S. debt.

The Government Securities Investment Fund is part of the government employee retirement investment program known as the Thrift Savings Plan, also known by members of our military as the G Fund. The extraordinary measure described above is simply the Treasury taking gains from the G Fund and donating them to the Treasury instead of reinvesting them for retirees. Treasury estimated this extraordinary measure to have a headroom value of $156 billion as of December 2012. However, if Treasury were to simply steal from government employee and military retirement accounts there would likely be outrage as soon as the public became aware. In order to avoid this, Treasury states that it will make the G Fund whole—presumably including gains that would have been made had the reinvestment occurred. Therefore, Treasury is borrowing money from the G Fund and creating an additional “off-balance sheet” liability, or debt, which requires Treasury to make the G Fund whole at some point in the future. In other words, Treasury is not exceeding the debt ceiling because it is offsetting the debt it created with a different kind of debt. Confused yet?

The final option is similar to the G Fund option. The Exchange Stabilization Fund is a fund Treasury uses to engage in foreign exchange to manipulate exchange rates. Here, again, Treasury can take gains from the fund instead of reinvesting them. But, unlike the G Fund, Treasury is not authorized to make the ESF whole at some point in the future without further authorization from Congress. Any funds taken from the ESF lessen Treasury’s ability to offset currency manipulation by investors like China. While this measure would not create additional liabilities, Treasury only valued this measure at $23 billion in December 2012. Even if Treasury fully exercised this option before going to the G Fund option, Treasury would have created more than $30 billion in additional liabilities through its exercise of extraordinary measures. In short, the US government has blown through the debt ceiling but continues to operate as though it has not exceeded its borrowing authorization through the use of shell-game tactics reminiscent of Enron.

Treasury’s actions when approaching the debt ceiling have been consistent for many years, as various administrations from both parties have sought to avoid taking necessary action to avoid exceeding the debt ceiling while waiting for Congress to raise the debt ceiling. The lack of concern expressed by many of the very same members of Congress who reacted so strongly to Enron begs the question: Why is this behavior acceptable from our government when it is unacceptable from our citizenry?

The short answer, of course, is that it is not. Andrew Fastow and Jeffrey Skilling were sent to prison, in part, for a scheme Fastow designed to hide debt from investors by shifting it to other companies. How different is that from creating a liability with no associated debt until after the debt ceiling is raised? What happens if the debt ceiling is not raised? Will government employees and members of the military see their retirement fund drained and not repaid or does the Treasury ignore the law and recognize the debt it has created? The only way we will know for sure is if Congress decides not to raise the debt ceiling before the Treasury can no longer employ its extraordinary measures.

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Posted by on August 30, 2013 in BLOG, Business


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