What Happens When The U.S Hits Debt Ceiling?

What Happens When The U.S Hits Debt Ceiling

The U.S is running out of time to increase its debt limit. If the Congress, Senate and White House do not reach an agreement by the January 19 deadline, the country will default on its loan obligations for the first time in history, leading to a possible global recession. 

The U.S will hit its debt ceiling on January 19, meaning the federal government will no longer be able to borrow money from the Treasury. On January 13, U.S Treasury Secretary Janet Yellen sent a letter to all members of the Congress warning that once the statutory limit of $31 trillion is reached, the Treasury will have to take extraordinary measures to prevent the country from defaulting on its loans.   

Debt ceiling or debt limit is the total amount of money the United States government can borrow from the Treasury to meet its existing legal obligations, including Social Security and medicare benefits, military salaries, interest on the national debt, tax refunds and other payments. 

Lawmakers in both the Republican and Democratic Party have raised, extended or revised the limit 78 times since the 1960s. The latest was on December 16, 2021, when the Congress under Democrats passed to increase the statutory limit to approximately $31.381 trillion. However, the Republicans who are now in control of the Congress are delaying the process by demanding spending cuts which the Senate and White House under the Democrats won’t accept. 

Experts say failure to raise the debt ceiling would have huge economic ramifications to the US and world economy, which includes stock market crash, a recession and rise in unemployment. In 2011, a political stand-off on the issue led to the country’s credit rating dropping and the cost of borrowing from the Treasury increasing by at least $1.3 billion, as investors demanded higher rates due to economic uncertainty. The issue was resolved when then-President Barack Obama agreed to cut spendings worth more than $900 billion which then increased the debt limit by the same amount. 

What Happens When The U.S Hits Debt Ceiling?

Treasury Secretary Janet Yellen has urged the government to undertake two special measures that will buy it time until at least June to pay back its debts. This includes redeeming existing, and suspending new investment of the Civil Service and Disability Fund (CSRDF), and the Postal Service Retiree Health Benefits Fund (Postal Fund), and suspending reinvesting of the Government Securities Investment Fund of the Federal Employees Retirement System Thrift Savings Plan – which are Social Security cheques received by retirees.

According to Yellen’s letter, the Congress has provided the Treasury with authority to take these actions which will reduce the amount of outstanding debt subject to the limit and provide “additional capacity for Treasury to continue financing the operations of the federal government”. The secretary warned that a failure to meet the government’s obligations “would cause irreparable damage to the U.S economy, the livelihoods of all Americans, and global financial stability”.  

The economic consequences would lead to the U.S dollar weakening and borrowing costs going up, which will affect the federal government in the short term, but ultimately the broader public who will have to pay higher interest rates for mortgages, credit card debt and other loans. 

The debt ceiling was first introduced in 1917, as a way for the government to raise money during the First World War. It also gave the Congress a window to check in on government spending. However, U.S debt has skyrocketed since 2001 mainly due to increased spending during the financial crisis, wars and recently the pandemic, which led to the country running on a budget deficit – spending more than it raised – ever since. 

One of the plans suggested by the Republican Congress is for the Joe Biden government to prioritise crucial payments like debt interest and Medicare – national health insurance program – while leaving out other obligations like spending on Medicaid –  a federal program that helps cover healthcare costs for lower income households – and national security. The White House responded by saying the plan was a “recipe for economic catastrophe” and the congress should not use the debt ceiling as a lobbying tool. The Republican strategy has been warned against by economists who say the approach would not solve an economic downfall. 

If an agreement is not reached within Thursday’s deadline, it will lead to the U.S defaulting on payment obligations for the first time in its history.

Also Check: BIS Economists Lay Out Policies For Authorities To Adopt Regarding Crypto 

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