The Treasury has already started taking extraordinary measures to enhance the country’s borrowing ability after it hit the debt ceiling on Monday, as there is a buffer time until August 2 to avoid defaulting on its payment obligations. However, the government is probably left with only one way to keep the country solvent — to raise the debt ceiling as soon as it can.
According to top White House economist, if the government fails to raise the debt ceiling, the country would be forced to default on its bonds or domestic programs, Reuters reported on Thursday.
The Root of the Matter
What is the debt ceiling? It is an upper limit on the amount of debt the federal government can borrow to operate economic activities of the country. A law for debt ceiling was passed by the Congress in 1917 to simplify access to funding.
The primary purpose of setting the debt ceiling is accounting assessments, required to control the budget deficit. Based on policies and related costs, the government settles on the amount it needs to borrow for a given period. Accordingly, it sets the debt limit, which theoretically keeps spending in check.
According to the Congressional Research Service, the debt ceiling has been raised 74 times since March 1962. The ceiling was last set at $14.3 trillion in February 2010.
What’s the Risk?
If the ceiling isn’t raised during the buffer time, the authority would be precluded from borrowing any more funds. Then, the country, which is already neck-deep in loans, would be grounded. Funding its operations and paying creditors would then be out of the question. The ramification of lapsing loan obligations would ultimately push the country back into recession.
Almost all the listed U.S. companies including major banks like JPMorgan Chase & Co. (JPM), The Goldman Sachs Group Inc. (GS), Morgan Stanley (MS), Citigroup Inc. (C) and Bank of America Corporation (BAC) would lose access to markets and investors if the debt ceiling isn’t raised.
Additionally, this would drag down America’s credit rating, making it difficult for the country to continue borrowing money from other nations. America would face a serious debt crisis, perhaps akin to Greece, Mexico and Argentina, countries that are still struggling to even out.
What’s the Resistance?
Some of the Republicans are against raising the debt ceiling until the government succeeds on steep spending cuts and frames a feasible deficit reduction plan.
It’s now a no-win situation for the government. While it knows that not raising the debt limit would be disastrous for the economy, it is not being able to implement a sharp spending cut due to the fear of disrupting the economic recovery.
The Expected Way Out
Once the extended period is over, it is almost certain that Congress will be forced to raise the debt ceiling to avoid a recurrence of the financial crisis. Going by past records, this should clear up the economic mess related to the debt issue for the next few years.
However, in order to gain Republican support, the government will have to figure out some spending cuts, which will again moderate the efficacy of its stimulus packages.
Finding a long-term solution to the debt issue is quite a challenge. It requires balancing of fiscal policy measures, without which the need for raising the debt ceiling will automatically increase.
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