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Understanding the U.S. Debt Ceiling

If you’ve been following the recent financial news, you have probably been hearing the phrase, “debt ceiling,” quite often. While this term has been tied to recent media coverage about the fiscal cliff,many people may not understand exactly what it means. At its core, the debt ceiling is our nation’s debt limit or maximum amount of borrowing power. The debt ceiling concept was created during World War I and was intended to give the Treasury increased ability to borrow money to pay for things Congress already voted for. 

Defined by the U.S. Treasury Department, it “is the total amount of money that the United States government is authorized to borrow to meet its existing legal obligations, including Social Security and Medicare benefits, military salaries, interest on the national debt, tax refunds, and other payments.” As the country has grown, so has its debt causing the nation to reach its debt limit on several occasions. Congress isn’t overly fond of raising the debt limit, but it has been voted to do so dozens of times in the past, usually with little public notice or fanfare1. In fact, over the past 50 years, Congress has acted more than 75 times to raise, extend, or alter the definition of the debt limit.

When many people hear about the debt ceiling or “debt limits,” they equate it to their own personal debt, but our national debt doesn’t work exactly like your own credit. How the national debt limit differs from personal debt:

 

  • People and families have to pay back their debt, governments don’t. The U.S. government only needs to ensure that our debt increases at a slower rate than the tax base.
  • Over-borrowed people and families owe money only to someone else, but when it comes to the U.S. debt; we owe half of that money to ourselves and the other half to foreign investors.

Why You Should Pay Attention Now

Our government officially reached the debt ceiling at around $16.4 trillion. Without an approved increase, the government won’t be able to repay its outstanding debts, and our economy could face another major financial crisis. According to the Treasury Borrowing Advisory Committee2, some potential consequences could be: 

 

  • Foreign investors could limit their Treasury purchases, or sell some of their existing holdings.
  • A default by the Treasury, or even an extended delay in raising the debt ceiling, might lead to a downgrading of the nation’s credit rating
  • A default could trigger a run on money market funds.
  • The Treasury financing market would be disrupted, leading to increased borrowing rates.

How Would A Default Affect Everyday Americans?

A default on the national debt would be disastrous. It would not only affect our own financial markets, but international markets as well. Most importantly it would adversely affect Americans who are still feeling many of the effects of the Great Recession. Here are 4 possible ways a default could affect you3

  • Cuts to government programs: the law requires the government to continue making payments for programs like Social Security and Medicaid, but a default would deny the government the ability to borrow money to pay for them. The government could be forced to make some difficult decisions about what to cut.
  • High Interest Rates: If sell-offs of U.S. Treasury bonds occur; this could lead to increased mortgage rates and borrowing costs for everyone.
  • Stock Market Panic: if interest rates rise and vast sell-offs occur, it could cause the U.S. stock market to experience panic and unrest.
  • Credit Downgrade: even if a resolution is eventually reached credit rating agencies could permanently downgrade U.S. debt, which could decrease our economic standing in the world as well as deflate the value of our currency.

What’s Happening Now and What to Expect

Lawmakers have until the end of February to raise the debt ceiling. The House of Representatives has announced that it will vote to do so on January 23rd, 2013. The proposed vote should extend the limit for the debt ceiling for three months, during which time they are proposing that both the House and the Senate approve budgets that call for spending cuts4. In addition to cuts, they’re also implementing a clause that will withhold pay for those lawmakers should they fail to reach a resolution.

The next three months will prove to be an important time for our leaders to come to a formal, and final, agreement on how to move the country forward. CareOne will continue to monitor activity in Washington and keep you updated on any forthcoming details that could impact you and your life.

 

 

 

 



1.New York Times, http://topics.nytimes.com/topics/reference/timestopics/subjects/n/national_debt_us/index.html

2.Exonomix Blog, http://economix.blogs.nytimes.com/2011/04/26/what-happens-if-the-debt-ceiling-isnt-raised/. 

3.US News & Reports, http://www.usnews.com/news/slideshows/6-consequences-if-the-debt-ceiling-isnt-raised/2

4.CBS News, http://www.cbsnews.com/8301-34222_162-57564973-10391739/house-to-vote-on-debt-limit-increase-on-wednesday/ 

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