The Independent Market Observer

Debt Ceiling Crisis Heating Up

Posted by Brad McMillan, CFA®, CFP®

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This entry was posted on Jul 17, 2019 4:14:50 PM

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debt ceilingAn issue I have been mentioning for the past couple of months is finally starting to get some attention: the U.S. is facing a potential crisis as the government runs out of money. Sometime this fall, likely in September, the government won't have the funds to pay its bills.

How can this happen? Can’t we just keep borrowing to spend, the way we have been doing for decades? The answer is that we could but that the law prevents us from doing so. Specifically, the U.S. Congress has a law in place that prevents the U.S. government from borrowing money to pay for the things the U.S. Congress has said the government should do. Obvious, isn’t it? Maybe not. So, let’s look at the details.

Where we are right now

On one hand, Congress (which authorizes all government spending) has directed the U.S. Treasury to pay things like interest on U.S. bonds, social security payments, military payrolls, and so on. Every single thing the government spends money on has been authorized by Congress. On the other hand, Congress has also mandated that there is a limit to how much the government can borrow (i.e., the debt ceiling) and that when the government borrows that much, it has to stop borrowing and only spend money as it receives it. If the money received is less than is supposed to go out, then too bad—the spending stops. That is where we are right now.

This situation has not been a problem until recently because the debt ceiling was suspended—not repealed—in the most recent spending deal. It is a problem now because that suspension lapsed in March, putting the ceiling back into place and stopping any additional borrowing. Since then, the government has not been able to borrow any new money, and the Treasury has been forced to use the “usual extraordinary measures” to find money to pay the bills.

Where we are going

The timing of the debt ceiling was actually a blessing, in that it came just before tax receipts started flowing in during April, giving the government more money to spend without borrowing. Even so, expectations are now that the government will run out of money in September, which is only a couple of months from now. At that point, some tough decisions will have to be made about what bills to pay—and what bills to default on.

In theory, this problem is easily solvable. Just resuspend, or better yet eliminate, the debt ceiling. Historically, however, it has been a battle every two years—in 2017, in 2015, and in 2013. Signs are this year will be the same story, and quite possibly worse.

The collateral damage

We can look at the debt ceiling in a couple of ways. A deal has always been reached in the past, so no problem. Maybe so. But even though deals were done, the collateral damage was always substantial. The crises and associated government shutdowns had significant negative effects on confidence and political goodwill. With consumer and business confidence already trending down, another shutdown over the debt ceiling could, at a minimum, knock both even further down into the danger zone—and that is before even considering the actual direct economic effects. We saw such declines with the last shutdown, and this time around could easily be worse unless an agreement is reached.

Indeed, markets are starting to take notice, with Treasury spreads widening around the expected default time. So far, this reaction is minor. But as we get closer, expect that reaction to intensify.

What should we watch for?

Mainly, we should pay attention to whether Congress takes action to raise the ceiling before the August recess. If so, the problem goes away. If not, members will be working against the clock when they return. Of course, action is probably unlikely before August. But watching how the two parties position the issue should give us a good idea of how this situation might play out and how worried we should be.

It has been a hot summer so far, not just in Washington, DC, but around the country. Absent an agreement sometime soon, it looks likely to get even hotter.


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