The federal government is shut down. But there's more mayhem to come. Congress still has to deal with the debt ceiling. If Congress doesn'tvote to raise the nation's borrowing limit by Oct. 17, the U.S. government won't have enough money to pay its bills.
Ben Franklin might have had thoughts on the debt ceiling, for all we know. (The Washington Post)
What happens then? The U.S. Treasury Department says that failure to raise the debt ceiling could trigger a default, which would lead to "a financial crisis and recession that could echo the events of 2008 or worse."
Republicans in Congress say they don't want a default, but many members alsodon't want to approve any new borrowing until the Obama administration agrees to make certain policy concessions, like delaying Obamacare. It's a stand-off.
So it's time to take a detailed look at what, exactly, the debt ceiling is, why we even have one, and whether apocalypse would really occur if Congress doesn't lift it before Oct. 17.
What is the debt ceiling?
This isn't the debt ceiling. But it's close! (Washington Post)
When Congress mandates more spending than it gets in tax revenue — which it usually does — the Treasury has to borrow the rest to meet all those financial obligations. But Congress has always imposed a legal limit on how much money the U.S. Treasury can actually borrow from outsiders and other government accounts. That's the "debt ceiling."
The current debt limit is $16.699 trillion. The Treasury Department can borrow that much and no more, unless Congress votes to raise the ceiling.
Note that the debt ceiling does not determine how much the U.S. government is authorized to spend. Congress does that by setting the budget each year. The debt ceiling only determines whether the U.S. government can borrow enough money to fulfill obligations that Congress has already passed into law, like Medicare reimbursements or military pay.
So when will the government reach its $16.699 trillion borrowing limit?
Technically, we've already reached the limit! But the government won't actually run out of money to pay its bills until some time after Oct. 17.
The U.S. government hit the $16.699 trillion borrowing limit back on May 19. Since then, the Treasury Department has taken a slew of “extraordinary measures” — such as tapping exchange-rate funds — to raise an extra $303 billion and ensure the government has enough cash to meet all its obligations, from paying bondholders to Social Security checks.
By Oct. 17, however, the Treasury Department will run out of "extraordinary measures." The government will no longer have enough cash on hand to meet all of its coming financial obligations, and it won't be able to borrow or scrounge up any more money.
"We estimate that, at [Oct. 17], Treasury would have only approximately $30 billion to meet our country's commitments," said Treasury Secretary Jack Lew in a recent letterto Congress. "This amount would be far short of net expenditures on certain days, which can be as high as $60 billion."
So what happens on Oct. 17?
At that point, the federal government will only bring in enough tax revenue to pay about 68 percent of its bills for the coming month, according to a recent analysis by the Bipartisan Policy Center. (More precisely, the government will bring in roughly $222 billion and owe roughly $328 billion between Oct. 18 and Nov. 15.)
The first default wouldn't necessarily happen right on Oct. 17 — but it would likely happen soon thereafter. The government spends about $10 billion per day on various items, according to the Congressional Budget Office. And it will also face these large outlays:
Oct. 23: The government will owe $12 billion in Social Security payments.
Oct. 31: The government will owe $6 billion in interest on its debt.
Nov. 1: The government will owe $67 billion in Social Security payments, disability benefits, Medicare payments, military pay, and retiree pay.
Many analysts think that Nov. 1 is the real "doomsday" date. There's likely no way the government can make that $67 billion payments without being able to borrow more money.
Hold on. The government is currently shut down. Doesn't that push back the "doomsday" date at all?
These closed parks won't help much. (The Washington Post)
Not significantly. The shutdown does reduce the number of daily payments Treasury needs to make. But even during the shutdown, the U.S. government is still required to make all sorts of payments, including Social Security, Medicare, military pay, and interest on the debt. And those are the big-ticket items.
Analysts at Goldman Sachs estimate that even with a week-long shutdown, Treasury would likely exhaust its cash balance by the end of October, when that $67 billion in benefit payments comes due.
So what happens when the government doesn't have money to pay its bills?
The likeliest scenario is that the government's computer systems would keep making payments until its checks started bouncing. And its hard to predict in advance whowould get stiffed.
Each and every day, computers at the Treasury Department receive more than 2 million invoices from various agencies. The Department of Labor might say, for example, that it owes a contractor $1 million to fix up a building in Denver. The Treasury computers make sure the figures are correct and then authorize the payment. This is all done automatically, dozens of times per second.
According to the Treasury Department's inspector general, the computers are designedto "make each payment in the order it comes due." So if the money isn't there, the defaults could be fairly random. Maybe a payment to a defense contractor comes up short. Maybe a Social Security check bounces. Maybe an interest payment to bondholders fails. No one knows.
Does it matter if the government misses a few bills?
Freak out! (The Washington Post)
Yes. Many economists think it would be especially disastrous if the government missed a payment to bondholders. The global financial markets are structured around the notion that U.S. Treasuries are the safest asset in the world. If that assumption were ever called into question, havoc would ensue.
It "would be like the financial market equivalent of that Hieronymus Bosch painting of hell," Michael Feroli, chief economist at JP Morgan, told me earlier this year.
That sounds bad. Can't the government just pay the important bills and delay the rest?
Hard to teach old computers new tricks. (ALAMY)
Probably not. This idea is known as "prioritization," and it's been floated before. During the last debt-ceiling fight in 2011, Sen. Pat Toomey (R-Penn.) suggested that the government should focus on paying bondholders and the military and retirees and delay the rest.
Trouble is, prioritization may be logistically infeasible, as Shai Akabas and Brian Collins of the Bipartisan Policy Centerexplain in a recent report. "It would involve sorting and choosing from nearly 100 million monthly payments," they write. There's no good way to stop paying the Education Department while making sure soldiers get paid. It's not clear the Treasury Department has the technical capacity to do this, let alone the legal authority.
That view is shared by Mark Patterson, a former chief of staff at Treasury: "The U.S. government’s payment system is sprawling," he explained. "It involves multiple agencies. It involves multiple interacting computer systems. And all of them are designed for only one thing: To pay all bills on time. The technological challenge of trying to adapt that to some other system would be very daunting and I suspect that if we were forced into a mode like that the results would be riddled with all kinds of errors."
Aren't bondholders paid by a separate system? Can't they be prioritized?
This dog got paid by the U.S. Treasury. Will you? (The Independent Record, Eliza Wiley/Associated Press)
Technically, that's true. The computer system that handles U.S. sovereign debt, Fedwire, is separate from the system overseeing payments to government agencies and other vendors. That raises the question of whether Treasury could stop all other payments and just pay bondholders.
But it's unclear whether Treasury even has the legal authority to prioritize in this way — the agency has never dealt with this situation before. "Anyone who says they know for sure whether this is legal is not telling the truth," Steve Bell of the Bipartisan Policy Center told me.
And the Obama administration, for its part, has maintained that it simply can't prioritize payments. "Any plan to prioritize some payments over others is simply default by another name," Lew wrote in his letter to Congress. "There is no way of knowing the damage any prioritization plan would have on our economy and financial markets."
What would be the economic consequences of breaching the debt ceiling?
A scene from HieronymousBosch's famous painting, "Breaching the debt ceiling" (Wikipedia)
Probably nothing good. A prolonged breach would result in a massive dose of fiscal austerity, hurting economic growth. And a default on the debt could roil financial markets.
If Congress refused to lift the debt ceiling, then the federal government could only spend as much as it takes in taxes. Overall outlays would drop by 32 percent, or $106 billion over the coming month — a much sharper drop than, say, the sequestration budget cuts or the furloughs caused by the government shutdown.
The financial response is harder to forecast. The Treasury Department certainly thinksthe prospect of missing a debt payment could be ruinous: "Credit markets could freeze, the value of the dollar could plummet, U.S. interest rates could skyrocket, the negative spillovers could reverberate around the world, and there might be a financial crisis and recession that could echo the events of 2008 or worse."
Other analysts agree. Take Fedwire, the central clearing system that banks in America use to move cash, bonds, and other financial assets around. This system shuffles around trillions of dollars a day. But as a recent note by RBC Capital Markets notes, Fedwire isn't set up to handle defaulted securities. The entire system would freeze. "Let us be perfectly clear," the note says, "crossing the debt ceiling would be catastrophic."
(For more on other potential financial consequences, most of them bad, see this post by Kevin Roose.)
Has the United States ever defaulted before?
Sort of. Back in 1979, the government inadvertently defaulted on about $122 million worth of Treasury bills, due to unexpectedly high demand and an error in word-processing equipment. This was only temporary and Treasury quickly corrected the error.
Still, the damage was long-lasting. A 1989 study in the Financial Review estimated that the incident raised the nation's borrowing costs by about 0.6 percent, or $12 billion. And the damage lasted for months. That was after a brief, accidental default that was corrected quickly. A debt-ceiling breach today would almost certainly be far more consequential.
Oh come on. Surely the Obama administration can do something to avoid financial Armageddon. Right?
Dudes, don't look at me. This ceiling is unstoppable. (AP)
Well... there are a few other possibilities if we blow past the debt ceiling. Some are impractical. Others, like the platinum coin option, sound ludicrous. But it's also a bit moot: The Obama administration has explicitly ruled them all out.
First, Treasury could try to buy time by delaying payments — agency officials deemed this the least-bad approach back in 2011. If Treasury was facing $10 billion in obligations on Monday, but only $7 billion in revenue came in, the agency could wait until it had the full $10 billion on hand before paying Monday’s bills in full. The problem is that during the delay, Tuesday’s bills are piling up. Then Wednesday’s. This tactic would quickly become unsustainable.
Alternatively, the Obama administration could try simply ignoring the debt ceiling. Last fall, two legal scholars, Neil Buchanan and Michael Dorf, wrote a paper arguing that Obama would be caught in a constitutional dilemma come Oct. 17. Congress has mandated that he spend money on certain programs, but they've also mandated that he can't borrow any more to pay for it.
The least bad constitutional option, say Buchanan and Dorf, is for Obama to ignore the debt ceiling and unilaterally issue new bonds. The problem is that this would be legally questionable, and lenders might be wary of buying new U.S. government debt — interest rates could conceivably spike.
What about the 14th amendment option? Or the platinum coin option!?!
Don't laugh. (AP)
Other Democrats have suggested that Obama can declare the ceiling unconstitutionalunder the 14th Amendment, which says "The validity of the public debt of the United States, authorized by law, … shall not be questioned.”
Still others have suggested that Obama could mint a $2 trillion platinum coin to fund the government. In theory, this is plausible: Thanks to an odd loophole in current law, the U.S. Treasury is technically allowed to mint as many coins made of platinum as it wants and can assign them whatever value it pleases.
The problem with these schemes? For one, they'd obviously be unorthodox and contentious. But more to the point, administration officials have explicitly ruled them out. Lew has said there are only two ways the debt ceiling fight can go: Either Congress lifts the debt ceiling, or the U.S. government will default on some of its payments.
Fine. How much does the debt ceiling need to be raised by to avoid chaos?
The Bipartisan Policy Center report estimates that Congress would need to raise the debt ceiling by around $1.1 trillion to allow the government to meet all of its obligations through the end of 2014.
Has Congress ever raised the debt ceiling before?
Yes. All the time. Members of Congress have always complained loudly about doing it — and politicians who do vote for the ceiling often get criticized for it. (When he was a senator in 2006, Barack Obama voted against raising the debt ceiling, although he later said this was a "mistake".)
But when push comes to shove, the House and Senate have always found a majority of votes willing to raise the debt ceiling.
So why has the debt ceiling been so contentious lately?
It all started back in 2010. Republicans had just won a huge victory in the midterms, and Congress agreed during the lame-duck session to extend $850 billion worth of tax cuts. But Democrats, who still ran Congress at the time, didn't include a debt-ceiling hike in the deal. Harry Reid's attitude at the time was, "Let the Republicans have some buy-in on the debt. They’re going to have a majority in the House.”
So, in 2011, when it came time to raise the debt ceiling, Republicans refused to do so unless they received spending cuts in return. That fight dragged on for much of the summer of 2011, and the financial markets got the jitters.
Eventually, Republicans and the White House struck a deal. Congress would raise the debt-ceiling by $2.4 trillion. At the same time, lawmakers would enact $2.1 trillion in deficit reduction — a deal that eventually lead to the sequestration budget cuts.
What do Republicans want this time around?
I could've sworn I put those demand somewhere. Lemme see... House Speaker John Boehner (R-Ohio). (Scott Applewhite/AP)
It's a little unclear. The original bill from House Republicans to raise the debt ceiling included a whole grab-bag of policy proposals, from a delay of Obamacare to curbing the Environmental Protection Agency to fast-tracking the Keystone XL pipeline. Democrats rejected all of those conditions and asked for a "clean" bill that solely hikes the debt ceiling.
Lately, senior Republicans have suggested that, instead, they might consent to end the government shutdown and lift the debt ceiling in exchange for a broad agreement to overhaul entitlements.
Yet at the same time, aides to House Majority Leader John Boehner (R-Ohio) have told reporters that they won't let the country default. If worst comes to worst, they say, Boehner will pull together Democratic votes to pass a "clean" debt-ceiling hike. So we'll see what happens.
What's even the point of a debt ceiling then? Should we abolish it?
Experts are mystified by how New Zealand manages to survive without a debt ceiling. (Dunedin NZ via Flickr)
Good question! Back when the debt ceiling was first adopted in 1917, it was arguably a useful device for Congress to prevent the president from spending however much he wanted. But since 1974, Congress has created a formal budget process to control spending levels.
As such, many observers don't see why there's a need for Congress to separately authorize borrowing for spending that Congress has already approved — especially when a failure to lift the debt-ceiling would be so devastating.
It's worth noting that there's nothing about debt ceilings in the U.S. Constitution. And most modern democracies seem to do just fine without explicit borrowing limits, including Britain, Canada, Germany, Japan, Australia, and France. (The one other exception is Denmark, but its debt ceiling always gets raised without incident.)
For what it's worth, here's a long list of experts who think the United States should just abolish its debt ceiling altogether. In a January survey of academic economists by the University of Chicago, 84 percent agreed that having a debt ceiling "creates unneeded uncertainty and can potentially lead to worse financial outcomes.” But no one listened to them, so here we are.