TOPICS > Politics

Debtor Nation

November 10, 1995 at 12:00 AM EDT


PAUL SOLMAN: Well, we’re joined now by two representatives in the New York financial community. David Jones is one of them. He’s chief economist at Aubrey Lanston & Company, a bond investment firm. And Kenneth Langone is chairman and managing director of Invemed Associates, an investment banking firm, who’s also serving as the chairman of fund-raising for the Dole campaign in New York State. Gentlemen, welcome to you both. David Jones, you’ve been here before. And our program last night, Leon Panetta said a default would be a catastrophe for U.S. credit, for U.S. financial markets, while Republican Senator Trent Lott said it wouldn’t be a big problem at all. So who is right? Why?

DAVID JONES: Panetta is clearly right. U.S. Treasury Securities are really the keystone for the world, risk-free securities, at least up until this point, no credit risk whatsoever. If you want the best quality security in your portfolio, if you’re holding a mutual fund, as a U.S. investor, if you’re a foreign central bank, or a foreign investor, the Treasury credit has stood higher than any other in the world. Now, just talking about the threat of default, you don’t even need to move to the moment of default, begins to shake the faith in those securities.

PAUL SOLMAN: Can we just step back a second and talk about what these securities are. We’re talking about U.S. Treasuries. What does that mean, Mr. Langone?

KENNETH G. LANGONE: It means securities issued by the United States Government. Let me say this.

PAUL SOLMAN: These securities mean IOU’s, bonds, bills?

MR. LANGONE: Yeah, bonds, notes, your Series E savings bond, anything at all if the government promises to pay you back for money you’ve loaned them.

PAUL SOLMAN: And there’s a level–there’s a ceiling on how much of those–

MR. LANGONE: There’s a ceiling on how much debt the government can issue. But let me say one thing. This notion of a default’s been on the front pages now for five weeks, and I disagree with David in one sense. The bond market is at one of the strongest periods I can recall in the last few years.

PAUL SOLMAN: And by that, you mean what?

MR. LANGONE: That bond prices have gone up and the cost of money to the Treasury has gone down.

PAUL SOLMAN: So the interest rate the government pays has gone down.

MR. LANGONE: Gone from 6.6 percent on long bonds down to about 6.32 tonight. That’s a very dramatic move in a very short period of time.

PAUL SOLMAN: And what does it mean?

MR. LANGONE: Well, it means to me that people aren’t really concerned that much about a default because, you know what, there isn’t going to be a default.

PAUL SOLMAN: But explain that. Why are people–why does that show that people aren’t worried?

MR. LANGONE: Well, for two reasons. No. 1, I think both parties understand, as David said, the implications of the severity of a default.

PAUL SOLMAN: No, but I want to get an understanding of why does it mean that people aren’t worried if the amount of money the government is paying in interest on its bonds goes down.

MR. LANGONE: No, no, they worry about that, because that drives the deficit as well. The more money the government pays to borrow, the higher the deficit. So ironically, the lower the cost of money, the more you help bring yourself out of deficit. But the issue I’m saying is that the bond market is not terribly concerned about the scariness.

PAUL SOLMAN: And that’s why–so the government doesn’t have to bid higher and higher interest rates.

MR. LANGONE: Well, forget the government right now. After the government issues securities, it’s the free market that determines the value of those securities.

PAUL SOLMAN: And people are saying they’re safe.

MR. LANGONE: The market is saying that those securities are more valuable tonight than they were five weeks ago.

PAUL SOLMAN: Okay. And that means that the market isn’t scared that the government’s going to default.

MR. LANGONE: I don’t think it’s scared.

PAUL SOLMAN: David Jones.

MR. JONES: The market in the last couple of days, the market’s been shrugging, I totally agree, the market’s been shrugging this off for some time, but just in the last couple of days, we’re starting to get to the point where we’re facing that possibility next week. And, in fact, the markets began to weaken. Bond prices came down. Yields went up. If you’re a mortgage borrower, as a result of that–

PAUL SOLMAN: Yeah. I have a variable mortgage.

MR. JONES: –of that increase that we’ve seen in the last couple of days, you will pay more. Now, the question is: when we come to the moment of truth, when we get close to the moment of default, how will the world behave toward our debt? Two things have happened that have given us a little bit of a warning signal in the last couple of days. Our dollar has fallen, meaning foreign investors are starting to get out of our dollar securities and go into German mark bonds, or perhaps Swiss bonds in order to find a stronger currency to be able to weather the storm.

PAUL SOLMAN: Because they want to be safe?

MR. JONES: They want to be safe. And the safety in U.S. Treasury securities, even by threatening default, is beginning to come into question. That means that what I think we’ll see next week and one of the points I want to make here is it’s not going to be over next week. We’re going to have a temporary increase in the debt ceiling. We’re going to have perhaps a government that is shut down in terms of 800,000 employees temporarily at least on furlough, indefinitely perhaps on furlough, and there’s going to be more and more publicity and more and more uncertainty. My feeling is that it was wrong to use the debt ceiling as a tactic to force the Republican deficit-cutting plan through the President. Now, I agree with cutting the deficit. I’d like to cut in five years to zero, instead of seven years. But the idea of using the debt ceiling, threatening default in the strongest debt in the world, Treasury securities issued by the strongest government in the world, simply was a big mistake.

PAUL SOLMAN: Mr. Langone is dying to get in here.

MR. LANGONE: Well, let me say this to you. I think the softness in the market the last two days because the nice thing about the market we all can have an opinion of why it does something. Nobody can prove you right or wrong.

PAUL SOLMAN: So the fact that the government’s paying a little more the last couple of days–

MR. LANGONE: I believe that the reason that the market, the bond market, has been a little choppy the last couple of days–


MR. LANGONE: –has been principally because of the propaganda. Where it appears with the polls that the administration is putting out, where it appears that the President has the upper hand and we aren’t going to get the, the deficit reduction, what the market wants, because I think there’s greater risk to our market over the long-term, is the deficit, not the threat of default.

PAUL SOLMAN: So you think that if we actually–let’s say we went into default–I know you think this is impossible–

MR. LANGONE: We won’t.

PAUL SOLMAN: –it’s impossible. Let’s say we got close enough so people were really scared that that was going to happen.


PAUL SOLMAN: Then you think that the government wouldn’t have to pay lots and lots more in interest for its–

MR. LANGONE: I believe this. I believe that if the–if God forbid, we went into default, and it was a step toward an end game of bringing the budget into balance, I believe a lot of people around–I think the first few days you’d really have some uneasiness, but I think when the dust settled and people looked that it was being part of a process of coming to grips with the deficit, I think that the–that the demand for government securities over the long-term would improve.

PAUL SOLMAN: And if the demand improved, then we’d have to pay less–

MR. LANGONE: Then the cost of money would go down. Now that’s a matter of an opinion, but I feel strongly that the last couple of days has been principally this very fierce propaganda machine that’s been out there working, using the polls that the American people are afraid of cuts and everything else and people saying, hey, wait a minute, it looks like the President’s got the upper hand, it looks like they aren’t going to be able to cut the deficit, and, therefore, rates are going to go back up.

PAUL SOLMAN: Okay. Let’s talk to our audience a little bit in terms of who would be affected. You mentioned this 800,000 and so forth. You mentioned my variable mortgage would go up. My parents’ Social Security, what about that?

MR. JONES: Well, that’s not going to be affected in any significant way.


MR. JONES: Trust funds, including Social Security, if the government has to come to the last moment before default, may temporarily have their debt reduced and the interest on our Social Security Trust Funds will not accumulate for a while, but there’s already been a law passed that said the government has to make good on that interest that we lost. So Social Security is solid. No one is going to any longer run sense lose. But what I’m trying to say, what I’m trying to say is if you’re sitting there in a mutual fund, holding a bond, a U.S. government security–

PAUL SOLMAN: Right. That’s my pension fund.

MR. JONES: –you bought that as the most secure instrument that there exists perhaps in this world.


MR. JONES: And suddenly, the talk–and I’m not part of a propaganda machine–I’m just a bond trader sitting there in the–


MR. JONES: –pits on Wall Street. The point is if there is even the threat of that possibility, that the U.S. Government will not pay when that bond comes due, what does the mutual fund do? Ask yourself. The mutual fund–you’ve given your money to a mutual fund.


MR. JONES: The mutual fund has invested in government bonds, and the mutual fund is expected to be paid off when those bonds come due, so they can pay you back if you need your money.


MR. JONES: What if the government doesn’t pay?

PAUL SOLMAN: So I might call up you with a mutual fund and say, hey, take my money out of government bonds and put it somewhere else.

MR. JONES: But the point is the mutual fund can’t pay you, and so all I’m trying to say is there will be a lot of nervousness. I’ve had requests from international portfolio managers who say I’m not counting U.S. Treasury securities as risk free any longer because we’ve had a threat of default. I’ve had people call me and say, are my government securities still good, will the government pay off debt, so I’m arguing that the technique or the tactic of using default to try to get a very noble purpose done–and there’s no disagreement on the idea of reducing the budget deficit, and the Republican Congress is doing the best job of trying to move in that direction, all I’m saying is don’t use default, don’t use the creditworthiness of the U.S. Government to try to force the President to accept the Republican deficit-cutting plan, have a debate, vote for it, and push it through that way.

PAUL SOLMAN: Look, Mr. Langone doesn’t think there’s going to be a default. People on this show for months, as he points out, have been saying there isn’t going to be a default. Do you think there’s going to be a default?

MR. JONES: I don’t think so, but the threat of it–the fact that there’s a small chance of it begins to change the attitude forever for Treasury securities, and it’s going to cost the Treasury more to borrow for a long period of time.

MR. LANGONE: That threat’s been out there for certainly the last five weeks. Dan Druckermill and I ran an ad in the “Washington Post” five weeks ago addressing the issue of a train wreck, which is what a default is called in slang. The fact of the matter is the bond market’s been extremely strong. I have a wish list. There are two things on it. Let’s stop playing games with each other about whether there’s going to be a default or not. There is going to be no default. Let’s make everybody comfortable. And the second thing, let’s stop labeling an increase in Medicare spending by 45 percent over the next seven years as a cut. Let’s stop frightening people that they’re going to lose their health insurance. This is horrible. I mean, for example, I’ll give you a for instance on game playing. They’re on an airplane 25 hours together, and they don’t–


MR. LANGONE: The President and the Speaker of the House and the Majority Leader on a plane 25 hours together last weekend. Why didn’t one or the other say, hey, let’s sit down and talk this–we’ve got 25 hours to kill–let’s talk?

PAUL SOLMAN: Well, this is the economic segment, not the political segment.

MR. LANGONE: No. But I’m saying–but they’re intermingled. You can’t–you can’t separate them.

PAUL SOLMAN: I’ll tell you. When you hear things like that. I listen to that and I say, well, gee, maybe there could be a default, in which case–

MR. LANGONE: There isn’t going to be a default.

PAUL SOLMAN: Well, you know, why did the “Financial Times” today, they’re all worried about it. Their Lex column, which is pretty conservative usually, “If the U.S. did default, the impact on bond markets would be severe, finances to investors who depend on the precise timing of interest receipts would be messed up. Confidence in the U.S. Government’s word for default,” just what he’s been saying, no?

MR. LANGONE: That’s one guy writing. They’re also writing about cuts in Medicare. They’re not cuts.

MR. JONES: All I’m trying to say is that it’s a simple issue. If there is a threat there–and by the way, I don’t think the government can necessarily control this process as easily as they think. What if somebody that has benefits coming to them in Social Security says I’m going to challenge this ability to dip into these funds temporarily to make room to borrow enough money to avoid default, what if a federal judge says, no one can dip into this? That would change the whole trajectory of this thing, and would make a default more probable.

MR. LANGONE: It could unravel.

PAUL SOLMAN: It would unravel.

MR. LANGONE: But it won’t. It’s not going to happen.

PAUL SOLMAN: Well, if it could, then–

MR. LANGONE: Let’s deal in likelihoods. Okay. It’s not going to happen.

PAUL SOLMAN: And the likelihood–

MR. JONES: I think the likelihood is small but gradually increasing, and that’s going to worry the world, and it’s going to make our markets very unstable, rates higher, stocks–bond rates higher, stocks down, and the dollar down.

PAUL SOLMAN: Well, okay, gentlemen, that’s all the time we have. Thank you both very much.