2013 Debt Ceiling Debate: What Investors Need to Know
August 28, 2013
- Late this fall, Congress will once again debate whether to raise the debt ceiling, which currently stands at about $16.7 trillion, or risk the United States defaulting on its obligations.
- The debt ceiling is defined as the cap on the amount of money the US government is allowed to borrow to meet its existing obligations.
- The US debt ceiling was suspended from February through May 19, 2013. Since May, the Treasury Department has used extraordinary measures to meet its obligations. But those measures will likely be exhausted sometime in the next few months.
- This fall's battle is shaping up as the most contentious yet. The ramifications of failing to raise the debt ceiling are serious. As we saw in the 2011 debt ceiling debate, it can roil the markets and rattle investors.
Once again, we're close to the time when Congress must decide whether to raise the statutory debt limit, or debt ceiling. Treasury Secretary Jack Lew announced this week that the US will reach that point in mid-October, a few weeks sooner than expected.
The debt ceiling is defined as the total amount of money that the US government is allowed to borrow to meet its existing obligations.
Those obligations include:
- Social Security and Medicare benefits
- Military salaries
- Interest on the national debt
- Tax refunds
- Other payments, such as veterans' benefits and invoices from vendors for goods or services
The current borrowing limit is approximately $16.7 trillion. Although this debt ceiling was reached in May, the Treasury Dept. has been taking extraordinary measures to help avoid default.
Soon, these measures will no longer be enough. As Congress debates raising the debt ceiling, pundits will ask once again: Why do we have a debt ceiling anyway? It's a reasonable question. After all, only one other democratic country, Denmark, has a debt limit.
Originally, the debt ceiling was seen as a way for Congress to provide oversight on the government's budget. Without it, the government could have borrowed as much as it wanted and spent the money with little Congressional oversight.
Proponents of the debt ceiling argue that it curbs reckless spending. If our elected officials are forced to cast a vote to increase the debt limit, this line of thinking goes, they have to publicly admit that they are outspending our means.
Opponents argue that the debt ceiling, particularly in recent years, has become a political football that needlessly disrupts the markets and risks default, which could have broad consequences for the US economy.
Origins of the debt ceiling
Prior to World War I, Congress granted borrowing authority to the Treasury Department on a case-by-case basis. In 1917, Congress passed a law that helped finance the country's entry into the war by dropping certain limits on the maturity and redemption of bonds. But it wasn't until 1939 that Congress set an aggregate limit of $45 billion on most public debt. Since 1962, the debt ceiling has been increased 77 times, including 11 times in the last decade.
Debt ceiling increases 1993-2013
Source: National Journal
In 1974, Congress reformed the budget process to detail exactly how the government spends its money. In some views, this has rendered the debt ceiling superfluous: It needs to be increased only to allow the government to pay for things Congress has already passed laws directing the government to do.
The debt ceiling today
Increasing the debt ceiling was a routine, non-controversial matter for decades. Only in the last ten years or so has it come to be seen as an indication that Washington politicians cannot control spending.
Some have proposed eliminating the debt ceiling entirely. Others have proposed tweaks. The Obama administration, for example, last year proposed automatic debt-limit increases, subject to a Congressional resolution of disapproval.
But eliminating or changing the debt ceiling hasn't gained any momentum in Washington, so, for now, we're stuck with the current process.
The coming debate
The United States hit the debt ceiling late last December. At that point, Treasury began employing some extraordinary measures to avoid default. They include:
- Suspending the issuance of certain types of securities and bonds, such as state and local government series securities and savings bonds
- Exchanging debt issued by the Federal Financing Bank, which is not subject to the debt limit up to $15 billion, for debt that is subject to the limit
- Suspending some investments of the Thrift Savings Plan, the federal government employees' retirement savings program
These measures usually buy Congress a few weeks of extra time before it needs to vote to raise the ceiling. Last February, however, instead of raising the ceiling, a law was enacted that temporarily allowed the government to continue borrowing enough to meet its obligations until May 19.
On May 19, Treasury again began using those extraordinary measures. A combination of factors, including better-than-expected tax returns, spending cuts brought on by sequestration and large dividend payments to the government by Fannie Mae and Freddie Mac, have let the government continue to avoid default.
But the Treasury can only scrape by for so long—and with an October deadline, the time for Congress to act is short.
With the Senate controlled by Democrats and the House by Republicans, there is no clear path forward. We could be in for a repeat of the summer of 2011, when Congress debated for weeks before avoiding default at the eleventh hour. The ramifications of failing to raise the debt ceiling are indeed serious. As we saw in 2011, it can roil the markets and rattle investors.
President Obama has called for a clean debt ceiling increase, with no strings attached. Republicans want to pair an increase with spending cuts or a framework for tax reform, or both. For now, neither party seems to have a strategy for how to bridge that gap.
All expressions of opinion are subject to change without notice in reaction to shifting market, economic or geopolitical conditions. Data contained herein from third party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.