February 8, 2023

The federal government’s cap on the amount it can borrow to fund is approaching fast. U.S. Treasury Secretary Janet Yellen told lawmakers last week that the nation will reach the debt limit on January 19, prompting a slew of warning from Wall Street analysts and economists about the potential financial fallout if Congress fails to take action.

The debt ceiling is currently at $31.4 trillion, representing borrowing that the U.S. Treasury undertakes to fund its financial obligations, which range from social safety-net benefits such as Social Security payments to interest on the national debt. 

Yellen urged Congressional leaders to raise the debt limit — an arbitrary number set by lawmakers — as soon as possible to avoid a financial fallout. But with a Republican-controlled House, it’s unclear whether lawmakers will be able to reach a bipartisan compromise to lift the ceiling. If lawmakers fail to come to an agreement, the “debt ceiling debacle risks a self-inflicted recession,” according to Gregory Daco, EY Parthenon chief economist, in a Tuesday research note.

Failing to raise the debt ceiling could lead to an “unmitigated disaster,” said David Kelly, chief global strategist at JPMorgan Funds, in a Tuesday report.

But some skeptics say that the U.S. has options to skirt economic calamity, such as the possibility that the U.S. Treasury could mint a platinum coin that could be deposited at the Federal Reserve and used to meet its financial obligations. 

Here’s what to know about the debt limit and its potential impact. 

What is the debt limit? 

The debt limit, which is set by Congress, represents the maximum amount the federal government is allowed to borrow to pay its debts. 

If the amount of government debt reaches that threshold, and doesn’t lift the ceiling, the U.S. would be unable to pay what it owes and could default. 

It’s important to note that when Congress raises or suspends the debt ceiling, it isn’t greenlighting new spending. Instead, it is giving the go-ahead for the Treasury to pay for spending that has already been approved.

Has the debt limit been raised before?

Yes. Since 1960, Congress has acted 78 times to raise, temporarily extend or revise the definition of the debt limit, according to Treasury.

Of those, the debt limit was tweaked 49 times under Republican presidents and 29 times under Democratic administrations, Treasury said. 

The last time the debt ceiling was lifted was in December 2021, when Democrats controlled both the House and Senate. 

What happens if the debt limit isn’t raised? 

With the U.S. approaching the debt ceiling on Thursday, Treasury will take several steps to ensure it keeps paying the nation’s bills.

“These special accounting measure should provide Treasury with around $400 billion in additional borrowing capacity under the debt ceiling,” Daco of EY Parthenon said in his note. 

But, without congressional action, the U.S. could face a default on its debts as soon as June, Yellen warned last week. 

What does “Date X” mean? 

“Date X” — or sometimes called the “X Date” — is the day when the U.S. government would be unable to meet its financial obligations, a point which would likely deliver “catastrophic consequences for financial markets and Americans throughout the country,” according to the Bipartisan Policy Center.

At the moment, Yellen places Date X in June, but other estimates vary. The bottom line, though, is that the U.S. could be months away from defaulting if the debt limit isn’t raised.

“Debt limit X date is a moving target,” noted Height Securities’ Benjamin Salisbury in a research note. “Yellen’s prediction that a default could come as early as June is months ahead of previous projections, which put the date around sometime in August.”

What happens if the U.S. defaults? 

If the U.S. reaches a date when it is no longer able to pay interest on the trillions it already owes and defaults — something that has never happened in the nation’s history — the result could be catastrophic, according to some economists. 

Because U.S. debt is considered the bedrock of the global financial system, due in part to its stability, a default could shake economies across the world. Americans could also face a recession, including higher unemployment, and the stock and bond markets would likely plunge, wiping out trillions in wealth. Recipients of federal benefits, such as Social Security recipients, might not get their monthly checks.

But what about mandated spending?

This is where some critics disagree with the doomsday scenario, with economist James K. Galbraith writing in Project Syndicate that Social Security, Medicare, Medicaid and interest payments are mandated spending — in essence, the U.S. by law must pay for these benefits. 

“The U.S. Treasury must follow the law. Debt ceiling or no, it cannot legally default on any obligation,” he noted. 

He added, “[T]he Treasury has no legal authority to single out Social Security or interest payments or anything else for cuts, and – so far as I know – it couldn’t stop those payments if it wanted to.”

Social Security has never failed to make a payment in its almost 100-year history, Galbraith said.

Can the U.S. avoid a default without raising the debt limit?

Treasury and lawmakers have some options that could help the U.S. meet its financial obligations and sidestep a default, economists said.

First, Treasury has the authority to mint a platinum coin of any denomination. Yellen could, in theory, authorize a $1 trillion platinum coin and deposit it at the Fed, with the coin being used to meet its debt obligations. The idea of a trillion-dollar coin, though, has been slapped down by Yellen in the past.

Daco also echoed Galbraith’s argument, noting that the constitutionality of the debt limit could be challenged because the 14th Amendment states that “the validity of the public debt of the United States, authorized by law, […] shall not be questioned.” But, Daco added, “this has been rejected as an option by prior administrations.”

And there is the possibility of a procedure called a “discharge motion” in Congress to lift the debt limit, Daco added.

This would “circumvent the need for the approval of a committee chair as well as the Speaker to be introduced for a floor vote – thus allowing moderate House Republicans to join Democrats in raising the debt limit,” he noted. “This is procedure would, however, take well over a month, and as such, wouldn’t be a last-minute option.”

Source link

Leave a Reply

Your email address will not be published. Required fields are marked *