The Debt Ceiling
Common questions and answers
Unless you have been living under a rock, you have probably heard about the debt ceiling crisis. This is a self-imposed limit on the amount of money the US government can borrow. If the debt ceiling is not raised, the government will not be able to pay its bills, which could lead to a default on the national debt.
It is important to remember that the debt ceiling is a political issue, not an economic one. The government has the money to pay its bills, but it is refusing to do so because of partisan politics. This is irresponsible and reckless, and it is putting the US economy at risk.
As the rhetoric picks up over the next two weeks as we barrel closer to the X-date – the date the government runs out of money – here is some context and history around the debt ceiling.
What is the debt ceiling?
The debt ceiling is a dollar limit Congress sets on the amount of money the United States government can borrow. The current debt ceiling is set at $31.4 trillion.
The government accumulates debt when it sells bonds to the public to finance budget deficits and meet federal obligations. The government can also issue debt to government accounts, such as Social Security, Medicare, and Transportation Trust funds.
Has there always been a debt ceiling?
No. While Congress has always restricted federal debt as part of its constitutional powers, formal limitations were not in place until 1917.
Before 1917, Congress authorized borrowing by voting on every debt issuance, specified which types of financial instruments the Treasury could use, and the interest rate, maturities, and details of when bonds could be redeemed. As the country grew, this process obviously became cumbersome.
Congress passed the Second Liberty Bond Act of 1917, allowing the US government to borrow money to fund World War I. This act dropped limits on the maturity and redemption of bonds and incorporated unused borrowing capacity from previous spending acts. Separate limits for previous debt issues were retained, and an overall aggregate debt limit evolved into what we now refer to as the debt ceiling.
How many times has the debt ceiling been raised?
According to the US Department of the Treasury, the debt ceiling has been raised, redefined, or suspended 78 times since 1960. Under Republican presidents, the ceiling was raised 49 times, and 29 times under Democratic presidents.
Doesn’t raising the debt ceiling increase our debt?
No. Setting the debt ceiling is separate and distinct from the US budget process. The President puts together a budget package every year, which Congress must vote on and pass. Failure to increase the debt ceiling would prohibit the Treasury from paying for spending already authorized by Congress.
Wait. What??
Raising the debt ceiling does not add to the debt already authorized by Congress. Raising the debt ceiling allows the US Treasury to pay for spending that Congress has already approved.
Are you telling me that raising the debt ceiling only covers obligations that the government has already incurred? That sounds dumb. How many other countries do this?
Yes. It’s pretty dumb. Denmark is the only other country with a debt ceiling; however, they set their debt ceiling intentionally high to avoid the kind of political brinkmanship we see right now in the US.
When will we hit the debt ceiling?
As of May 16, the Treasury had $182B available, $88B in unexhausted accounting maneuvers – known as extraordinary measures – and $94B in cash. Payments are due June 1-2 for Medicare, retirement, and veterans benefits are estimated to be $97B or about half of the available funds. The exact date is hard to estimate; however, Treasury Secretary Yellen forecasts the “X-date” in the first week of June.
What happens if the debt ceiling doesn’t get raised?
If the debt ceiling isn’t raised, the Treasury won’t be able to pay bills as they arrive. This means things like social security payments and government paychecks – civilian and military - would be delayed. Additionally, interest payments on debt issued by the US would not be paid, resulting in a technical default.
Is default bad?
If the US defaulted on its debt, it would be bad. Very bad. The issue isn’t whether we can pay our bills – we can - it’s that we choose not to. This choice would lead to a loss of confidence in the US government, as defaulting on our obligations in this manner would indicate serious political instability and dysfunction.
This loss of confidence would ripple across the globe as stocks, bonds, and the dollar immediately get repriced, and the adverse effects would linger for years.
Borrowing costs would increase for the US government, thus making it more expensive for businesses to borrow; mortgages and consumer loans become more expensive, all of which would dramatically slow our economy’s long-term growth potential.
Are there measures the administration can take to avoid default?
Yes, but none of them are good.
The Treasury could attempt to prioritize payments, ensuring interest is paid to all bondholders. But that would leave other bills unpaid, like those to Social Security, Medicare, and the military. And what politician wants to have that discussion with the American people?
The President could invoke the 14th Amendment, which in Section 4 states;
The validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned.
If the President were to invoke the 14th Amendment, he would argue that the debt ceiling is unconstitutional because it prevents the government from carrying out its constitutional duty to pay its debts. To let the country default would be a dereliction of his responsibility.
This would undoubtedly be litigated on the grounds of separation of powers, where Congress has the power of the purse, and the President does not.
The US Treasury could instruct the US Mint to produce a $1T platinum coin and deposit this with the Federal Reserve. Congress delegated to the Treasury all seignorage power to produce denominations, specifications, and designs of coins.
In an attempt to find ways to help the US Mint make money (think: collector coins), Congress passed a law in 1997 that gives the Treasury secretary the power to mint platinum coins of any denomination. Here’s subsection (k) of the Coinage Act:
The Secretary may mint and issue platinum bullion coins and proof platinum coins in accordance with such specifications, designs, varieties, quantities, denominations, and inscriptions as the Secretary, in the Secretary’s discretion, may prescribe from time to time.
In other words, Treasury Secretary Yellen has the authority to direct the Mint to produce a coin and deposit this with the Federal Reserve. Of course, the Federal Reserve would have to accept the coin. I’m confident that Chair Powell would rather not be remembered for being party to this.
The Treasury could issue "premium bonds" with a higher interest rate than the market rate. This would allow the Treasury to raise more money from investors, which could then be used to pay obligations and avoid default.
For example, if the market rate for a 10-year bond is 3%, the Treasury could issue a premium bond with a 5% coupon. This would make the premium bond more attractive to investors, who would be willing to pay a higher price for it. As a result, the Treasury could raise more money from the sale of the premium bond than it would from the sale of a market-rate bond.
In the example above, the Treasury could sell a premium bond for $120, even though it has a face value of $100. The extra $20 would then be available to the Treasury to pay obligations.
While it is possible to use workarounds to avoid defaulting on the debt, it would require significant preparation and coordination with the market. This has not happened yet, and even Treasury Secretary Janet Yellen has not said that this is her preferred option.
It is clear that any of these workarounds would be controversial and would lead to a loss of confidence in the US government. The US currently enjoys the enviable position of having its debt obligations seen as the safest assets in the world, and this could be jeopardized if the government were to appear to be taking shortcuts.
I should point out that none of these options have been pursued in the past because each has negative implications that have never needed to be considered. It is inconceivable that a country such as ours would choose to put itself in this position. Yet here we are.
It is important to remember that the debt ceiling is a self-imposed limit, and there is no reason why the government should not be able to raise it. It is irresponsible to undermine the full faith and credit of the United States by refusing to raise the debt ceiling.