By the end of World War I, the United States had accumulated about 27 billion U.S. dollars in national debt. Put this number in context, considering that the debt in 1914 was less than $3 billion. Considering the war surcharge imposed by President Woodrow Wilson on U.S. income and the personal income tax burden of up to 73%, it is clear that 1920 was a bleak year for the U.S. economy.
The United States cannot repay debt by selling Liberty and Victory bonds and short-term debt instruments called proof of debt. In addition, the treasury interest paid by the Ministry of Finance cannot exceed the interest earned through income tax, especially when the public wants to lower these interest rates.
This is what led to the first auction of Treasury bills in 1929.
President Warren Harding signed the Taxation Act of 1921, which lowered the maximum income tax rate from 73% to 58%, and at the same time slightly reduced the income surcharge. The bill also increased the capital gains tax from 10% to 12.5%. Due to the decrease in overall revenue, the Ministry of Finance was forced to enter a serious debt management model, especially in the short term.
During the war years, the government issued short-term, monthly and biweekly debt certificates for subscriptions of one year or less. By the end of the war in 1919, the outstanding amount of federal debt exceeded the amount that could be easily repaid.
The Ministry of Finance sets the coupon rate at a fixed price and sells vouchers at the face value. The coupon rate is slightly higher than the money market interest rate. Institutions oversubscribe these investment options. The government pays money out of the surplus. It does not know how much the surplus is, or even whether it exists.
The birth of Treasury bills
The U.S. Treasury Department has no authority to change the government’s fiscal structure or introduce new fiscal structures. Therefore, President Herbert Hoover signed formal legislation to combine new securities with new market arrangements.
Zero coupon bonds have a maximum issuance period of one year and are issued at a price lower than face value. Due to its short-term nature, zero coupon bonds will be called Treasury bills.
The legislation changed the Ministry of Finance’s fixed-price subscription products to an auction system based on competitive bidding to ensure the lowest market interest rate. All transactions will be settled in cash, and the government will be allowed to sell Treasury bills when funds are needed.
In the first issuance at the end of 1929, the US Treasury Department issued the first batch of 13-period notes.
The government now has a way to obtain cheap funds to fund its operations.
Treasury bill progress
By 1930, the government sold bills through auctions in the second month of each quarter to limit borrowing and reduce interest costs. All four auctions in 1930 witnessed buyers refinancing with newer notes.
By 1934, due to the success of the bill auction in the past, the proof of debt was cancelled. By the end of 1934, Treasury bills were the government’s only short-term financing mechanism.
In 1935, President Franklin Delano Roosevelt signed the Baby Bond Act, which later allowed the government to issue HH, EE, and Series I bonds as an additional mechanism to fund its operations.
Today, the US government holds market auctions every Monday or as scheduled. Treasury bills for 4 weeks and 28 days are auctioned every month; Treasury bills for 13 weeks and 91 days are auctioned every three months; Treasury bills for 26 weeks and 182 days are auctioned every six months.
The debate over whether debt should or can be transferred to future generations ended in the 1920s, as the government produced sustained surpluses through skilled debt management. Despite the early and persistent problems of oversubscription of fixed-price issuance and inconsistent pricing mechanisms, the government still managed to fund its needs.
When the T-Bill system was created, many financial problems were eliminated. Today’s market is one of the largest in the world, and some investors can even buy U.S. Treasury bonds directly from the Federal Reserve.