Why is the debt ceiling back in the news – and should I care?

The US government has hit the debt ceiling, which means that in a few months it won’t be able to pay its bills unless Congress votes to raise the debt ceiling. The US Treasury can only keep everything afloat for a short time before the government defaults, which could spell disaster nationally and globally. The clock has just restarted for Congress to take action.

So what is the debt ceiling anyway? And why should you care?

The debt ceiling, also known as the debt limit, is the total amount of money the United States government can borrow to meet its legal obligations. These obligations include funding things like social security, health insurance, military salaries, interest on the national debt, and tax refunds.

The United States reached its debt ceiling on January 19.

When the government reaches the debt ceiling, it risks an eventual default, which would trigger a financial crisis. To avoid a debt ceiling crisis, Congress can raise or suspend the debt ceiling; the limit has been changed 20 times since 2002.

The US debt ceiling was last raised to $31.4 trillion on December 16, 2021.

The last time the United States hit the debt ceiling was in 2011, and it led to a showdown between Democrats and Republicans that led to market chaos. Default was narrowly avoided by a midnight deal to raise the limit, but the ripple effects on the economy lasted for months.

In order to prevent the United States from defaulting, the Treasury Department is putting in place “extraordinary measures” which, for the moment, mainly impact pension funds. These measures include:

1. Redeem existing retirement funds and suspend any new investment from state employee retirement funds, including the Civil Service Retirement and Disability Fund, or CSRDF, and the Pensioners’ Health Benefits Fund. the post office, or Postal funds.

2. Suspend reinvestment in the Federal Employees Retirement System Savings Plan Government Securities Investment Fund, or G Fund.

In a January 13 letter, Treasury Secretary Janet Yellen called on Congress to raise or suspend the debt ceiling. She wrote that the Treasury estimates the government will run out of money and default by June.

Congress generally agrees that there is a need to raise the debt ceiling, and therefore pay off government debts, and regularly votes for it, as it last did in 2021. However, this time , it will not be so easy.

Republicans would demand future spending cuts in exchange for an increase in the debt ceiling. House Speaker Kevin McCarthy, R-California, called for talks to begin. Again, negotiating to raise the debt ceiling is unusual. And the Democrats are not budging on their call to raise the debt ceiling without conditions. On January 18, White House press secretary Karine Jean-Pierre said at a press conference: “We have been very, very clear about this. We are not going to negotiate the debt ceiling.

If the default lasts for weeks or longer, rather than days, it could trigger an Armageddon-like financial crisis for the US and global economies.

A report by the White House Council of Economic Advisers in October 2021 warned of the possible effects of the US default, which include a global recession, frozen global credit markets, plummeting stock markets and massive layoffs around the world. Real gross domestic product, or GDP, could also fall to levels not seen since the Great Recession.

The U.S. has only defaulted once, in 1979, and it was an unintentional error — the result of a technical check-processing glitch that delayed payments to some Treasury bondholders American. The whole affair only affected a few investors and was corrected within a few weeks.

But the 1979 default was unintentional. And from the perspective of global markets, there’s a world of difference between a short-lived administrative problem and a widespread default resulting from Congress’ failure to raise the debt ceiling.

A fault can occur in two stages. First, the government could delay payments to Social Security recipients and federal employees. Then the government would be unable to service its debt or pay interest to its bondholders. US debt is sold to investors in the form of bonds and securities to private investors, corporations or other governments. The mere threat of default would cause market upheaval: a sharp drop in demand for US debt as its credit rating is downgraded and sold, followed by a spike in interest rates. The US government should promise higher interest payments to justify the increased risk of buying and holding its debt.

Here’s what else you can expect to see if the United States doesn’t repay its debt.

A default could trigger a liquidation of US government-issued debt, considered one of the safest and most stable securities in the world. Such a sale of US Treasuries would have far-reaching implications.

Money market funds are low-risk, liquid mutual funds that invest in short-term, high-quality debt securities, such as US Treasury bills. Conservative investors use these funds because they generally hedge against volatility and are less sensitive to changes in interest rates.

In the past, investors have sold money market funds when the United States ran into debt ceiling limits and signaled a potential government default. Yields on shorter-term Treasuries are rising because they’re hit harder than longer-term bonds, giving investors more time for markets to calm down.

In the event of a default, federal benefits would be delayed or entirely suspended. These include:

Social Security; Medicare and Medicaid; Supplemental Nutrition Assistance Program, or SNAP, benefits; housing assistance; and assistance to veterans.

A default would likely trigger a U.S. credit rating downgrade — the S&P has only downgraded the country’s credit rating once before, in 2011, as it neared default. The default combined with the credit rating downgrade would in turn cause markets to crash, the White House Council of Economic Advisers said in 2021.

If the current debt ceiling discussions drag on for too long, markets risk becoming more volatile than they already are.

As debt ceiling negotiations drag on, Americans could see rates rise on consumer loan products, including credit cards and variable-rate student loans.

Lenders may have less capital to lend or may tighten their standards, making it more difficult to obtain credit.

Depending on the timing of a default and the duration of the effects, rates could increase on new fixed auto loans, federal or private student loans and personal loans.

If the debt ceiling is not raised, filers could take longer to receive their repayments, usually within 21 days of filing. If the government defaults, those who file late run the risk of not receiving their refund.

A debt ceiling crisis will not impact those with fixed rate mortgages or fixed rate home equity lines of credit, or HELOCs. But holders of adjustable rate mortgages, or ARMs, may see rates rise even more than they have already — more than four percentage points on rate indexes since the spring of 2022. Those in the fixed period of their ARM can expect to see rates increase when they reach their first setting.

If the government defaulted, rates on new mortgages would likely rise, but it’s unclear which direction variable-rate HELOCs would move.

The debt ceiling and the national debt are not the same, but they are linked to each other. The debt ceiling is the total the government is allowed to borrow before it defaults. The national debt — $31.41 trillion as of Jan. 19 — is the total amount of remaining money currently borrowed by the federal government, plus interest. Refusing to vote to lift the debt ceiling would not reduce the national debt – it would mean the government cannot pay off the debt it already has.

Here’s how the national debt works: when spending exceeds revenue in a fiscal year, the government runs a budget deficit. In order to pay the deficit, the federal government borrows money by selling what are called marketable securities, such as treasury bills, notes, notes, floating rate notes, and protected treasury securities. Against Inflation, or TIPS. Total debt includes both the amount borrowed and the interest it promises to those who lent money by purchasing these marketable securities.