If you’ve lived in the US for more than a couple of years, you’ve more than likely heard someone complain about the rising national debt or how large the deficit has become. Essentially, the national debt is just the amount of money the government is indebted to (or owes) the Treasury security holders. US government spending always surpasses its sources of revenue (income taxes, corporate taxes, payroll taxes, etc.) creating what’s called a deficit.
In order to obtain the money necessary to meet the countries lofty needs and ambitions, the US sells Treasury debt instruments (T-Bills for short term, notes for midterm, and bonds for long term maturity dates) which raises capital with the obligation that the government will pay the debts back with some interest on top (the infamous interest rates you may have heard about in the news). In order to satisfy their ever growing demand, the US continues this cycle of spending, selling more bonds, and paying back older bonds that have come due, raising the national debt to a whopping ~$31.45 trillion (yes, TRILLION!) which comes out to over $94,000 PER PERSON in the US.
Scary stuff, sure, but what pacifies the qualms of the skittish consumers and concerned citizens alike is the US’s resilience as it pertains to these debt obligations. Excluding a few very unique and special circumstances the US has NEVER defaulted on their debt payments, giving them the highest possible “AAA” rating on the security of their bonds. Not only is this a point of pride for the US, but enables them to offer lower interest rates, as up until now their bonds are viewed as practically risk-free (so much so that their interest rates are referred to as the risk-free rate).
The Debt Ceiling
But before the US is able to go on their annual spending spree, Congress first needs to set a national, “mandated limit on borrowing” also referred to as the debt ceiling. Every few years, the US reaches, or begins to approach, our debt ceiling, and Congress promptly acts to raise the bar to meet our spending needs for the years to come.
Turmoil and Possible Ramifications
On January 19, 2023, the US hit their $31.4 trillion debt ceiling. With the newly appointed Republican-controlled House, the Democrat-directed Senate, and the current division the country experiences, reaching a bipartisan consensus regarding the debt ceiling could be unprecedentedly difficult, and may lead to the US defaulting on their payments. President Biden has stated his ambitions to increase the debt ceiling with no caveats, while Republican lawmakers such as Speaker Kevin McCarthy of California have insisted they’ll only vote to approve a raise contingent on a commitment to reduced federal spending and include provisions that further the Republican Party’s agenda.
“No big deal if we’re a little late on our payments,” you might think, “we’ll just wait a couple months and figure it out.” Wrong. If the US does in fact default on their obligations it could lead to a plethora of undesirable problems and could very likely incite a national recession (which is defined as 2 consecutive quarters of negative GDP). The US Treasury Bonds have always been heralded as a pillar of stability and certainty in uncertain times and if the US is unable to make payments it could send both the domestic and global markets into an all out frenzy.
Firstly, and most obviously, the US wouldn’t be able to finance essential parts to their operations such as Medicare, Social Security, and our National Defense budget. In a time of uncertainty and economic hardship on the tail end of the devastating COVID-19 pandemic, taking away quintessential access to healthcare and financial support to those in need would have damaging consequences.
The next repercussion would be the US credit rating being downgraded by rating agencies. If this transpired, consumers around the world would lose confidence in the once fortified US economy and could push the already fragile economy into a major recession, raising interest rates for US producers and consumers alike, which would slow down spending.
Furthermore, globally, the US dollar has always been perceived as the strongest currency in the world, because of its backing by the US’s pristine credit record, and therefore it makes up about 60% of all global reserves. When the market inevitably sounds the alarm bells regarding the US’s default, a major selling of US Treasury bonds would transpire, leading to a subsequent decline in the value of the US dollar. The declining strength of the US dollar could be devastating to foreign countries that depend on their largely USD cash reserves and might send us spiraling into a global economic panic.
Lastly, if we default, it is very likely the government would experience a shutdown (where all government personnel and services deemed non essential would stop) for the first time since 2019.
Avoidance and Reform
With economists and bureaucrats, like Secretary of Treasury Janet Yellen, calling for an immediate raising of the debt ceiling to avoid all of the unpleasantries listed above, a growing assembly has emerged, calling for the abolishment of the debt ceiling altogether. With the debt ceiling becoming an increasingly political tool used to further the controlling parties agenda, many believe it has lost all of its formerly practical merit. They believe the debt ceiling merely inhibits the government’s ability to do its job. However, policy makers across the aisle like McCarthy adamantly disagree and contend that, “If you gave your child a credit card and they kept hitting the limit, you wouldn’t just keep increasing it. You would sit down with them to identify where they are overspending and where they can change their behavior.”
As it gets closer to the time when the US government must pay-up to their creditors and fork over what they owe, it’s becoming increasingly evident that whatever route the US government decides to take, indecision is not the answer. This problem isn’t going away on its own, and inaction paired with political gridlock won’t save the country from the impending times of financial uncertainty if the government doesn’t act effectively and quickly.