The US Debt Ceiling Crisis: What You Need to Know

The US is facing a potentially catastrophic default on its debt if Congress does not raise or suspend the debt ceiling by June 1, 2023. The debt ceiling is the limit on the amount of money the government can borrow to pay for its bills, such as salaries, contracts, social security checks and interest payments on its debt. The current debt limit is $31.4 trillion, which the US reached on January 19, 2023.

What is the debt ceiling and why does it matter?

Since then, the Treasury Department has been using extraordinary measures to keep the government running, such as suspending investments in federal retirement funds and borrowing from other accounts. However, these measures will run out by June 1, 2023, according to Treasury Secretary Janet Yellen. After that date, the US will not have enough cash to pay all of its obligations, which could amount to $450 billion per month.

What are the consequences of a default?

If the US defaults on its debt, it could have devastating consequences for the economy and the financial system. The US has never defaulted on its debt before, so the exact effects are unknown.

However, some of the possible scenarios are:

• The US would lose its creditworthiness and reputation as a safe and reliable borrower, which would make it harder and more expensive to borrow money in the future. The US pays about $300 billion per year in interest on its debt, which could increase significantly if interest rates rise due to a default.
• The US dollar would lose its status as the world’s reserve currency, which would reduce its purchasing power and influence in global trade and finance. The dollar is used by many countries and institutions as a store of value and a medium of exchange. A default could undermine confidence in the dollar and cause it to depreciate against other currencies.
• The Treasury market, which is the largest and most liquid debt market in the world, would experience a shock wave of volatility, uncertainty and panic. The Treasury market is the backbone of the financial system, integral to everything from mortgage rates to stock prices. A default could disrupt the functioning of the market and trigger a sell-off of assets, a freeze of credit and a collapse of prices.
• The economy would face a recession or even a depression, as consumer spending, business investment and trade would contract sharply. A default could also trigger a wave of bankruptcies, layoffs and foreclosures across various sectors of the economy. The Congressional Budget Office estimated that a default could reduce GDP by 4% and increase unemployment by 1.5% in 2023.

How did we get here and how can we get out?

The debt ceiling crisis is not a new occurrence. The US has faced several fiscal crises in the past where Congress has either failed to pass a budget on time or there were doubts that the debt ceiling would be raised. Yet, these crises were usually resolved before a default occurred or with minimal damage to the economy.

The most recent debt ceiling crisis was in 2011, when then-President Barack Obama agreed to a deal with Republican House Speaker John Boehner that called for more than $900 billion in upfront spending cuts and deficit reduction over 10 years. However, this deal was later watered down by subsequent bipartisan bills that increased spending caps on discretionary programs.

The current debt ceiling crisis is similar to the one in 2011, but with some differences. President Joe Biden and House Speaker Kevin McCarthy have reached an agreement to address the debt limit issue by raising it by $2 trillion until December 31, 2023. However, this agreement faces opposition from some lawmakers in both parties who want more spending cuts or revenue increases to offset the debt increase.

The White House and Congress are under pressure to act quickly to avoid a default before June 1, 2023. However, the uncertainty and anxiety surrounding this issue could still have negative effects on the economy and the markets in the meantime.

Sources:

• Obama agreed to spending cuts to end the 2011 debt ceiling crisis. Here’s what happened next | CNN Politics
• What is the US debt ceiling and what will happen if it is not raised? | US economy | The Guardian
• What Would Happen if the U.S. Defaulted on Its Debt - The New York Times
• 2023 United States debt-ceiling crisis - Wikipedia
• Brief history of debt ceiling crises: former government official | Fortune