The US debt ceiling

What is the debt ceiling?

The debt ceiling, also known as the debt limit, is the amount of money the US Treasury Department is allowed to borrow to pay its bills. Because the revenue collected from income taxes isn’t enough to cover its expenditures, the US government borrows money to pay for many essential functions. These include providing Social Security and Medicare benefits, paying the salaries of military personnel, covering tax refunds and servicing its significant national debt, which currently stands at roughly $29 trillion.

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What happens if Congress doesn’t raise or suspend the debt ceiling in the future?

We don’t know exactly what will happen. This would be an unprecedented event. But the impact could be cataclysmic for the US economy and cause ripples across the world. And that is what many US officials are warning of. The consequences would “produce widespread economic catastrophe,” Yellen wrote in The Wall Street Journal.

The US government would be forced to finance its debt obligations with whatever cash it has on hand. After it burns through that, the government would likely default on its remaining debts. 

How Many Times Has the Debt Ceiling Been Raised?

According to the U.S. Department of the Treasury, the debt ceiling has been raised, extended, or revised 78 separate times since 1960. This occurred 49 times under Republican presidents and 29 times under Democratic presidents.

Past Debt Ceiling Crises

On July 31, 2021, the debt ceiling suspension that was put in place by the Bipartisan Budget Act of 2019 expired. This meant that the debt ceiling was reached once again. The national debt on Aug. 2, 2021, was $28.4 trillion. In October, Treasury Secretary Janet Yellen released a statement urging Congress to raise or suspend the debt ceiling as a way to prevent default. Just days later, Senate Democratic Majority Leader Chuck Schumer said that an agreement has been reached to extend the debt ceiling early December 2021. While not a complete debt ceiling crisis, the national debt had reached new highs in 2021, drawing attention and concern from many.

On Dec. 14, 2021, the debt ceiling was raised by $2.5 trillion, with a new limit of around $31.4 trillion. This increase constituted the largest dollar amount increase of the national debt.

While the debt ceiling is raised pretty frequently, the process of raising it can often lead to disagreement among party leaders, and a possible government shutdown. This was avoided in 2021 but happened in 2013.

In January 2013, Congress threatened not to raise the debt ceiling. It wanted the federal government to cut spending in the fiscal year 2013 budget. However, better-than-expected revenues meant the debt ceiling debate was postponed until that fall.

On Sept. 25, 2013, the Treasury Secretary warned that the nation would reach the debt ceiling on Oct. 17. Many Republicans said they would only raise the ceiling if funding for Obamacare was taken out of the fiscal year 2014 budget.

Then, on the first day of fiscal year 2014—Oct. 1, 2013—the government shut down because Congress hadn't approved the funding bill. The Senate wouldn't approve a bill that defunded Obamacare, and the House wouldn't approve a bill that funded it. 

The Obama administration reported that the 2013 government shutdown cost 120,000 jobs and slowed economic growth by as much as 0.6%.

On Oct. 17, 2013, Congress agreed to a deal that would let the Treasury issue debt until Feb. 7, 2014. Government leaders are often met with the choice to raise the debt ceiling, and the effects differ depending on how quickly they come to a decision.

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How has it changed over time?

Since the first overall debt limit was established in 1939, the U.S. economy, and the national debt, have grown significantly. 

The ratio of public debt to gross domestic product
The ratio of public debt to gross domestic product has tripled since the 1960s. (Screenshot of FRED)

The debt limit — that cap on how much the Treasury Department can borrow to pay for everything Congress has already authorized — is approaching $29 trillion

“To have that in the back of your mind I do think gives people pause about how they’re spending money,” said Day. “Now, it hasn’t always been done with all the acrimony and political football-ness that we now have.”

The cost of political uncertainty

The buyer of a credit swap receives a given contingent amount following a credit event, such as a default. The contingent amount usually corresponds to the difference between the face value of the underlying bond and its market value at the time of default. As discussed in Duffie (1999) and Hull and White (2000), if both CDS and cash bonds price default risk equally and subject to possible arbitrage imperfections, the spread on the risky bond over a risk-free rate should equal the CDS price. 

In this case, estimates of the impact of sovereign credit risk on bank CDSs can be used to quantify the additional financing cost that may be incurred in the financial sector following an increase in government credit risk as a consequence of the debt ceiling crisis. 

A rough calculation suggests that, during the 2011 US debt ceiling crisis, the impact of the disagreement between Republicans and Democrats over the rise in the US debt ceiling on US government CDSs was about 46 basis points. Over the same period, and as a consequence of the US debt ceiling crisis, US bank financing costs temporarily increased by approximately 18 basis points.

The experience of the 2011 US debt ceiling crisis serves as a powerful reminder that political events matter for economic and financial variables, and that the political disagreement over the raising of the US debt limit can have a non-negligible impact on federal and US bank funding costs. 

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Where is my Refund?

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Non-Benefit Federal Payments

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The Bottom Line

The debt ceiling was created during World War I in order to regulate U.S. government spending and to keep the U.S. government fiscally responsible. Since then, the debt ceiling has been raised or revised 78 times in order to avoid the possibility of default and keep the U.S. economy running, with no signs of Congress turning to other options, despite questions over the debt ceiling's effectiveness.

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