The High Cost of Debt: Very-High-Denomination Treasury Notes and U.S. Treasury Debt Management

[Joanne98]

The High Cost of Debt: Very-High-Denomination Treasury Notes and U.S. Treasury Debt Management, 1955-1969


A Paper for Presentation at the 2005 Annual Conference of the Economic History Society at the University of Leicester, 8-10 April 2005


By Dr. Franklin Noll


Introduction

For most of their history after World War II, Treasury notes have been issued with denominations never rising above a high of $1 million. Yet, from 1955 to 1969, the Treasury issued Treasury notes with the added denominations of $100 million and $500 million. The purpose of this study is to determine why the Treasury issued these very-high-denomination Treasury notes and why it stopped doing so.


Treasury Debt Management after World War II

The history of Treasury notes, including those offered in very-high denominations is linked to the broader story of the management of the public debt. The paramount goal of Treasury debt management has always been to borrow money at the lowest cost possible. Borrowing costs include not only the interest rate at which the money is borrowed but also the costs of holding and servicing the debt. Keeping these costs low became more difficult after World War II because of the frequent need for refunding operations.


The need to refund a sizeable amount of the debt arose from the cost of the war. By 1946, the public debt had risen from a pre-war level of $49 billion to $269 billion. Debt of this magnitude, 130% of the gross domestic product in 1946, could not be paid off quickly and would have to be refunded or rolled-over into the future. Treasury officials still thought and operated as though the public debt was still at its pre-war levels; and, as in that period, managing the debt required only occasional, almost ad-hoc, entries into the market with a focus on rolling over maturing short-term securities. As a result, “ach financing operation seemed to be an independent crisis, requiring new and largely unpredictable decisions as to terms and maturities, rather than one part of a carefully planned debt-management program.”1


This crisis atmosphere in the government securities market was compounded by the Treasury’s practice of trying to dictate interest rates on government securities. In 1942, foreseeing a massive increase in the debt because of the war effort, the Treasury, with the help of the Federal Reserve, pegged interest rates on newly issued securities at below market levels.2 After World War II, the Treasury tried to maintain the wartime pattern of interest rates even though market rates began to rise and the Federal Reserve refused to continue its support of the pegged rates. As a result, it became increasingly difficult for the Treasury to sell anything other than short-term securities to investors, shortening the average length to maturity of the public debt as a whole and the time to the next refinancing. Treasury competition for short-term debt and the disturbances caused by its frequent and irregular financing operations created inflationary pressures that further raised market interest rates and compounded the Treasury’s financing problems.


By 1953, and the appointment of George M. Humphrey as Secretary of the Treasury in the Eisenhower administration, it was evident that the Treasury could not continue business as usual. Unable to borrow money at artificially low rates, Humphrey accepted that the Treasury needed to follow the market in determining rates; and after fiscal year 1953, there was a significant rise in the Treasury’s long-term rates to market levels. To minimize market rates overall, the Treasury had to do its best to lessen its involvement in the short-term market and take the uncertainty out of its financing operations by entering the market less often.3 To do this, the Treasury needed to lengthen the average length to maturity of the public debt.


Increase in Treasury Notes

Unable to sell large quantities of long-term Treasury bonds, the Treasury, in the early 1950s, was forced to turn to short-term securities and medium-term securities to refund maturing securities. And, as short-term securities would only work to further shorten the average maturity of the public debt, Humphrey was forced to use Treasury notes as the primary vehicle to lengthen maturities. The result was a rapid expansion in the issue of notes.


There were increases in both the dollar amount sold and the number of issues of Treasury notes. By the end of fiscal year 1955, the percentage increase in dollar amounts from 1952 was 979%, while the number of issues per fiscal year rose from zero to four. These changes translated into increased administrative costs and difficulties.


Costs of Servicing Treasury Notes

The Treasury notes issued in the early 1950s were all couponed bearer securities, paying interest on a semiannual basis. To receive his interest payment, the holder of the note would detach the appropriate coupon and present it to his bank, which would then send it on to the regional Federal Reserve bank. The Federal Reserve bank would issue a payment, physically cancel the coupon, and send on the coupon to the Bureau of the Public Debt.4 The Bureau then recorded the payment and destroyed the coupon.


With the ten-fold increase in the dollar amount of Treasury notes issued between 1952 and 1955, the amount of work handled by the Federal Reserve banks and the Bureau of the Public Debt exploded. Correspondingly, the printing run of Treasury notes at the Bureau of Engraving and Printing increased from around 67,000 10-coupon notes in fiscal year 1952 to 690,000 10-coupon notes (or 6.9 million coupons in total) in fiscal year 1955.5 All these millions of notes and coupons would have to pass through the Federal Reserve system and the Bureau of the Public Debt.


An investor buying millions of dollars in notes or a custodial bank holding billions of dollars in notes for their customers also had a lot of work to do when they wanted to cash in their coupons. Every year two coupons had to be detached from every individual security and turned in for payment. If an investor had $500 million in Treasury notes, and hopefully held the sum in $1 million denomination securities, he would have to detach and turn in 1,000 coupons a year. Custodial banks handling larger sums and many smaller denominations had an even worse time.6 People had to be employed to cut, count, track, file, transport, and guard the coupons. Vault space was needed to store the Treasury notes. And, between 1952 and 1955, the number of notes and coupons involved was to expand ten fold. The resulting increase in costs was burdensome.


The Rise of Very-High-Denomination Treasury Notes

An easy way to reduce the administrative costs involved would be to add a few zeros onto the existing denominations, and this is what was done. In February 1955, the denominations of $100 million and $500 million were added to the existing ones of $1,000, $5,000, $10,000, $100,000, and $1 million. Raising the maximum denomination to $500 million cut down the amount of work involved in large issues of Treasury notes for everyone. The $500 million investor now had only two coupons to worry about, as did the Bureau of the Public Debt. And, the Bureau of Engraving and Printing only had to print one $500 million security instead of 500 $1 million securities. So, very-high-denomination Treasury notes were really money saving devices.


The issue of Treasury notes bearing very-high denominations was to continue for the next 14 years, through three administrations and five Secretaries of the Treasury. Their longevity was the result of the continuation of the trends first seen in the early 1950s: the Treasury’s inability to sell long-term bonds, market pressures toward short-term securities, and upward trends in servicing costs.

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http://74.125.47.132/search?q=cache:dn-l4TULb_sJ:www.ehs.org.uk/ehs/conference2005/Assets/NollFullPaper.doc+bonds+denominations+%22%24500+million%22&cd=12&hl=en&ct=clnk&gl=us&client=firefox-a


For most of their history after World War II, Treasury notes have been issued with denominations never rising above a high of $1 million. Yet, from 1955 to 1969, the Treasury issued Treasury notes with the added denominations of $100 million and $500 million. The purpose of this study is to determine why the Treasury issued these very-high-denomination Treasury notes and why it stopped doing so.

The bonds found in Italy must have been issued between 1955 and 1969.

Here's a picture of the bonds



http://emsnews.wordpress.com/2009/06/12/italy-and-japan-confirm-bond-bonanza-story-is-real/#comments

[Statistical]

1. So they are fakes

If Treasury stopped issuing $500 million bonds in 1969 even if you assume they are 30yr bonds and all issued in 1969 they would have a maturity date of 1999.

The idea that someone has been holding $135B worth of bonds which came due in 1999 for 9 years instead of cashing them for $135B worth of cash in insane.

If the treasury did indeed stop issuing $500m notes in 1969 then these are fakes and likely not very good fakes as the counterfeit didn't realize that.

It would be like making a counterfeit $1000 bill with an issue date of 2009.

[dixiegrrrrl]

2. Bloomberg reports bonds are said to be dated 1934.

"The bonds, with a face value of more than $134 billion, are probably forgeries, Colonel Rodolfo Mecarelli of the Guardia di Finanza in Como, Italy, said today. If the notes are genuine, the pair would be the U.S. government’s fourth-biggest creditor, ahead of the U.K. with $128 billion of U.S. debt and just behind Russia, which is owed $138 billion.

The seized notes include 249 securities with a face value of $500 million each and 10 additional bonds with a value of more than $1 billion, the police force said on its Web site. Such high denominations would not have existed in 1934, the purported issue date of the notes, Mecarelli said. Moreover, the “Kennedy” classification of the bonds doesn’t appear to exist, he said. "

http://www.bloomberg.com/apps/news?pid=20601101&sid=afJXAA1ahZyo