A quote has been attributed to Mark Twain, “It usually takes me more than three weeks to prepare a good impromptu speech.” At the pace at which political decisions are made in Washington, Twain would be classified as an optimist. The drama of the debt ceiling debate has been headline news for most of the past month and has been a pending item on the Congressional agenda for most of the year. What is the debt ceiling and what will happen if it is not raised?
The debt ceiling is a congressionally authorized limit on the amount of federal debt outstanding. That limit is $14.3 trillion and was reached in May of this year. The Treasury Department was able to move some funds around and extend the period the U.S. government could meet its obligations until Aug. 2. This date was an estimate made in May and reconfirmed by Treasury in early July. After that date, the federal government cannot have debt outstanding in excess of the ceiling. The ceiling has been raised many times, 16 times since 1993. It has provided the Treasury Department with authority to borrow during periods of insufficient cash flow and it has allowed the expansion of payments of benefits and programs during times of economic downturns, such as the recent recession.
A wide range of commentators are of the opinion that Treasury will not attempt to fire-sale assets, start selling gold or using a variety of suggested creative measures. It is also generally discounted the administration will attempt to invoke a provision of the 14th Amendment. All three of the major credit rating agencies have warned of the downgrading of the credit quality rating of the U.S. in the event of default. A wide variety of forecasts have been made of the impact on the stock market, interest rates, currencies, individual retirement savings, credit availability, should the U.S. government become unable to pay its obligations.
The consensus opinion is that the debt ceiling will be raised, if only through temporary measures, in order to avoid potentially adverse effects.
But, as of this writing, the debt ceiling has not been raised. The debt ceiling issue is not an economic issue. It is a political issue. It has become tied to a separate issue, the federal budget deficit and the “sausage making” process called legislation to cut expenditures or increase revenues. This is both a political issue and an economic debate.
The economic debate is to be played out over a period of anywhere from 10 to 12 years, under current proposals. The political debate is an early part of the 2012 campaign. It appears that no permanent, by Washington standards, solution will be made, if at all, until after the 2012 elections. However, the debt ceiling debate will have an immediate impact on the fragile and tepid economic recovery underway.
If the debt ceiling is not raised, what will happen? There is significant uncertainty on this point, even from the pragmatic point of view. The treasury would need to choose 40 to 45 percent of the 80 million monthly payments not to pay. Inflows and outflows do not match up well during a month and the results will be “lumpy,” delaying payment until inflows are received rather than on the due date.
For the month of August, expected inflows total $172.4 billion and outflows total $306.7 billion. There are sufficient inflows to pay interest on treasury securities, social security benefits, Medicare and Medicaid obligations, defense vendor payments and unemployment benefits. What is not paid?
This would include military active duty pay, VA programs, federal salaries and benefits, Pell grants, food and nutrition services, IRS refunds, housing assistance for the poor, FBI and Department of Justice services, and a list of other government programs and services.
The list can be rearranged, but some things will get paid and others will not. The result is chaotic, with the Treasury having to prioritize payments, picking winners and losers, and producing unfair results. This would create intense global media focus and add uncertainty to the financial markets. This could possibly result in an immediate increase in interest rates on U.S. debt reissued and increase total debt cost. The level of uncertainty would spread further to hiring decisions, business expansion, consumer spending; impeding, if not ending, the progress the economy has made since the end of the recession.
Generally, our political leaders have stated that default must be avoided. Brinkmanship, over the debt ceiling limit, is adding to economic uncertainty with adverse economic effects. Tempers may flare during debate and rhetorical flourishes may cause wounded feelings, but a consensus might agree with another Twain quote, “anger is an acid that can do more harm to the vessel in which it is stored that to anything on which it is poured.”
Hopefully, this will no longer be an issue by the time this piece appears in print.
David Helscher is a senior vice president and trust officer with Clinton National Bank.