With signs of financial Armageddon everywhere today, it’s time for more musings on the debt ceiling. A little Q&A may help here.
What’s the debt ceiling, again?
Our nation’s Federal government has the ability to generate revenues (through taxes, generally), and spend the money it collects. However, since WW II, there have only been a couple of years in which revenues exceeded expenses, generating an ever increasing on-going deficit.
How does the government survive, if it spends more money than it takes in?
The Federal government, like most businesses and many people, finances some of it’s expenses by borrowing money. It sells, through regular auctions, Treasury notes, which are promises to pay the purchaser both interest through the life span of the note, and the full value of the note at the end of that life span. People like to buy these notes, as the US government is seen as the safest investment possible; we are the largest economy in the world, with a very long-lived government compared to other countries and all businesses. We’ll probably be around through the life of the note, and we’ve never failed to pay the full value, on time, on our debt.
But why can’t we just keep borrowing money, why is there a limit on it?
Although the Constitution does not require it, Congress has chosen to place limits on the government’s ability to borrow. This is called the debt ceiling. Congress has routinely raised the debt ceiling scores of times since 1917.
What happens when we reach the debt ceiling?
The government, through the Treasury, is continually spending money and getting new revenues on a daily basis. As we already saw, we need to continually borrow money to meet our expenses. If we have a limit on how much debt can be outstanding, at some point, daily expenses will exceed daily revenues, and someone won’t get paid.
Who doesn’t get paid?
The Treasury Sect’y has said recently that his interpretation of both financial rules and the Constitution will lead him to pay bills as they come in. So there will be no priority. Chaos will ensue, given the vast number of people who are expecting payments: Federal employees, including military personnel, contractors building planes, doctors and hospitals expecting compensation for Medicare patients, and holders of US T-Bills expecting interest payment and principle re-payment. The effects will be immediate and widespread, extending beyond just those who get paid by the government.
That sounds pretty bad, but won’t we survive?
Beyond the 20-25% of our economy which results from those daily Federal expenditures, there will be repercussions including a probable downgrade of our credit rating, and fear among the holders of assets like stocks and corporate bonds. A lower credit rating equals higher interest rates on T-Bills. Most loans with variable interest rate (credit card debt, home equity loans, some mortgages, many business loans) will see an immediate rise in interest payments. A drop in the value of stocks and bonds will result in less wealth and thus less spending by many.
In short, if you think the recession of 2007-9 was bad, you’ve haven’t seen anything yet.
If it’s that bad, what’s different this time? Why all the fuss and digging in of heels in Washington?
No matter what they say, Republicans and Democrats have fundamentally different beliefs about the role of government. Those beliefs are sometimes hidden behind rhetoric, but the differences are what drive an impasse like this. Here’s what I believe are the core beliefs of the two parties.
If you’re a Republican, here are your talking points:
• Democrats want to take money from rich people and re-distribute it to the poor and lazy.
•We need to stop this in two ways: give the government less money to work with and reduce the payments made through these redistribution entitlements (basically, Medicare and Medicaid and a myriad of programs which give free and subsidized service like Planned Parenthood)
•Giving less money to the government requires lowering, not raising taxes, so we’ll never vote to raise taxes
•Reducing entitlements means lowering the budget.
•Continuing to spend more than we take in prevents us from lowering the budget, so we need to stop the ability of the government to borrow money.
If you’re a Democrat, here are your talking points:
•Social justice requires us to continue to support those who can’t work (the elderly, the disabled), and that can only be done through the Federal budget.
•We need to increase our economy’s ability to innovate and generate new jobs. This requires research and subsidy of new industry which can only be done at the national level
•We need to stop Corporate Welfare (like agriculture subsidies, the oil depletion allowance, tax breaks for billionaires, etc) so we can balance our budget. This will require changes to the tax code which some view as “tax increases”.
• If we grow our economy sufficiently, we can continue to borrow money as we will be rich in the future and thus able to repay it.
[While I have a little trouble with the “social justice” part of the equation – I like the idea of means testing Medicare and Social Security, for example – my basis is basically with the Democrats.]
The political parties are always at odds with each other; that’s the whole point of parties, isn’t it?
Yes, but in the last election, a substantial minority of the House of Representatives – about 80 new members – were elected promising to put an end to the deficit spending in our Federal budget. Apparently, they think they really meant it, unlike the usual promises made at campaign time. So the ability of Congressional leadership to craft a compromise between the parties has been … compromised.
Those House Republicans whom you say are in the way: don’t they understand the consequences of not raising the ceiling?
I’m sure they do, and that’s exactly what’s driving them. They think they can’t lose. If they stand firm and get their way – cut current spending, cap the budget thru the debt ceiling, and place a balanced budget requirement in the Constitution – they get what they want. If they succeed in stopping any action, and the economy tanks, then they have a great crisis to lead the country out of, just like Roosevelt did. They are willing to destroy the country in order to save it.
Now you have me really scared. Is there no way out of this log jam?
I believe, as many do, that Congress and the President will raise the debt ceiling within a week, but only for a short time, and without the Tea Party pre-conditions, meaning we can hope to have this fight all over again in 6-8 months. In Part II (or it is III), I’ll explore some of the financial theory about governmental debt, and explore some options for getting out of the mess.