U.S. Debt Ceiling: Why It Matters, Past Crises

What Happens If the Debt Ceiling Isn't Raised by October

US Capitol Interior
Ceiling of the U.S. Capitol, where the debt ceiling is set and hopefully raised. Photo: Vito Palmisano/Getty Images

Definition: The debt ceiling is a limit imposed by Congress on how much debt the Federal government can carry at any given time. Congress suspended the debt ceiling on November 2, 2015, when it passed the Bipartisan Budget Act of 2015 (Pub. L. 114-74). The ceiling remained suspended until March 15, 2017. The debt subject to the limit cannot go one penny higher than the $19.808 trillion it was on that day.

(Source: "The Debt Ceiling Deadline Has Passed," Zero Hedge, March 17, 2017.)

The U.S. Treasury has been raiding federal pension funds to keep from issuing new debt. It will run out of these extraordinary measures in early September. It can use incoming tax receipts to stay afloat until early October. If Congress doesn't raise the debt ceiling by then, the federal government will run out of cash.

The Trump administration would like Congress to raise the debt ceiling by $2.5 trillion before the August 2017 recess.  The House of Representatives Freedom Caucus may support an increase of $1.5 trillion. That's just enough to get the government through the 2018 mid-term election. They want to ask for guarantees that the administration will cut the debt before allowing a ceiling increase. These include spending cuts and an assurance that debt repayment is the highest priority. But they may not be able to negotiate that before the August recess.

(Source: "Freedom Caucus Eyeing $1.5 Trillion Debt Ceiling Increase," Politico, June 13, 2017.)

The previous debt ceiling was $18.113 trillion. The nation reached that ceiling on March 15, 2015. In response, U.S. Treasury Secretary Jacob Lew initiated a debt issuance suspensory period. That meant he would take extraordinary measures to keep the debt from exceeding the limit.

For example, he stopped paying into the Federal government employee and Post Office employee retirement funds. He also sold investments held by those funds. (Source: Report on Fund Operations and Status, Department of the Treasury, January 29, 2016. "Meet the New Debt Ceiling," CNN Money, March 17, 2015)

The debt ceiling is similar to the limit your credit card company places on your spending. But there's one significant difference. Congress is also in charge of how much it adds to debt with each year's budget deficit. In other words, it's setting a limit on itself. It usually spends enough to go above the debt ceiling it also sets. That's like your credit card company allowing you to spend above its limit, and then refusing to pay the stores for your purchases. 

Technically, the debt ceiling is only imposed on the "Statutory Debt Limit." That's the outstanding debt in U.S. Treasury notes after its adjusted for unamortized discounts, old debt, debt held by the Federal Financing Bank, and guaranteed debt. This amount is just a little less than the total outstanding U.S. debt recorded by the national debt clock

It also includes a lot of debt the government owes to itself, primarily the Social Security Trust Fund.

The debt that's owed to everyone else is the public debt. It's 70 percent of the total debt.

Debt Ceiling History

Congress created the debt ceiling in the Second Liberty Bond Act of 1917. It allowed the Treasury Department to issue Liberty Bonds so the U.S. could finance its World War I military expenses. These longer-term bonds had lower interest payments than the short-term bills Treasury used before the Act. Congress now had the ability to control overall government spending for the first time. Before that, it had only issued authorization for specific debt, such as the Panama Canal or other short-term notes. (Source: CRS Report for Congress, The Debt Limit: History and Recent Increases, 2008)

This is no longer necessary. In 1974, Congress created the budget process that allows it to control spending.

 That's why Congress usually raises the debt ceiling. When the budget process works smoothly, both houses of Congress and the President have already agreed on how much the government will spend. There's no need for a debt ceiling. It merely allows the government to borrow money to pay the bills it has already approved. (Source: "1974 Budget Control Act," University of California Berkeley.) 

Elected officials have a lot of pressure to increase the annual U.S. budget deficit and push the national debt higher and higher. That's because there is not much incentive for politicians to curb government spending. They get re-elected for creating programs that benefit their constituency and their donors. They also stay in office if they cut taxes. Deficit spending does, in general, create economic growth

When the Debt Ceiling Matters

Congress must raise the debt ceiling so the United States doesn't default on its debt. That usually isn't a problem. In fact, during the last ten years, Congress increased the debt ceiling 10 times. It raised it four times in 2008 and 2009 alone. If you look at the debt ceiling history, you'll see that Congress usually thinks nothing of raising it.

The debt ceiling only matters when the President and Congress can't agree on fiscal policy.  That occurred in 1985, 1995-1996, 2002, 2003, 2011 and most recently in 2013. It's a last resort to get attention by the non-majority party in Congress. They might have felt slighted by the budget process.

The debt ceiling, and government spending, can also become a concern if the debt to GDP ratio gets too high. According to the International Monetary Fund, that level is 77 percent for developed countries. Then debt owners become concerned that a country can't generate enough revenue to pay the debt back. 

What Happens If the Debt Ceiling Isn't Raised?

As the debt approaches the ceiling, Treasury can stop issuing Treasury notes, and borrow from its retirement funds (excluding Social Security or Medicare). It can withdraw around $800 billion it keeps at the Federal Reserve bank.

Between 2008-2010, the Fed vastly increased the amount of Treasury notes it held, a policy known as quantitative easing. Former Congressman Ron Paul (R-Texas), Chair of the Fed Oversight Committee, suggested that the Fed forgive or postpone payment of the $1.6 trillion in debt it owned. That would have delayed the need to raise the debt ceiling.

Once the debt ceiling is reached, Treasury cannot auction new Treasury notes. It must rely on incoming revenue to pay ongoing federal government expenses. That happened in 1996, and Treasury announced it could not send out Social Security checks.

Competing Federal regulations make it unclear how Treasury could decide which bills to pay, and which to delay. Foreign owners would get concerned that they may not get paid. See What Is the U.S. Debt to China?

If Treasury did default on its interest payments, three things would happen. First, the federal government could no longer make its monthly payments. Employees would be furloughed, and pension payments wouldn't go out. All those receiving Social Security, Medicare, and Medicaid payments would go without. Federal buildings and services would close. 

Second, the yields of Treasury notes sold on the secondary market would rise. That would create higher interest rates, increasing the cost of doing business and buying a home. It slow economic growth.

Third, owners of U.S. Treasuries would dump their holdings. That would cause the dollar to plummet, probably removing its status as the world's reserve currency. The standard of living in America would decline. Tjjat would make it highly unlikely that the United States could ever repay its debt.

For all these reasons, Congress shouldn't monkey around with raising the debt ceiling. If members are concerned about government spending, they should get serious about adopting a more conservative fiscal policy long before the debt ceiling needs to be raised. 

What Happens When the Debt Ceiling Is Raised?

Continuing to raise the debt ceiling is how we wound up with a $19 trillion debt. The debt ceiling has become a joke, more like a speed limit sign that is never enforced. Short-term, there are positive consequences to raising the debt ceiling. America continues to pay its bills, and we avoid a total debt crisis.

The long-term consequences are severe. That's because the paper-thin debt ceiling is apparently the only restraint on out-of-control government spending. Even Republicans know that most voters (other than the Tea Party and Libertarians) don't care about too much government spending. A 2014 Harris Poll showed that half of all Americans thought it should not be raised. Slightly more than one-quarter thought it should be raised, and the remaining 24 percent just aren't sure.

"Many people seem to want to cut down the forest but to keep the trees," according to Humphrey Taylor, Chairman of pollster Harris Interactive. The majority of those interviewed don't want to see cuts to health care, Social Security (two of the largest budget items) and education. They do want to see cuts in foreign aid (one of the smallest budget items) and to overseas defense spending, one of the largest budget areas.  They are saying "Cut programs that send my tax dollars overseas, and keep programs that help me personally."

The debt ceiling is good in that it creates a crisis that focuses national attention on the debt. Raising it is a necessary consequence of management by crisis. 

The 2013 Debt Ceiling Crisis

On February 11, 2014, House Speaker John Boehner passed a bill to suspend the debt ceiling until March 15, 2015. The debt ceiling would automatically become the level of the debt at that point in time. The bill approved without any attachments, riders or insistence that Obamacare be defunded. He didn't have 218 Republican votes to do so. Instead, he passed it with 193 Democrats and 28 Republicans.

He was severely criticized by tea party Republicans in the House, who called it a "...complete capitulation on the Speaker's part and demonstrates that he has lost the ability to lead the House of Representatives." They, and Senator Ted Cruz, were the only ones who thought the threat of a debt default was a useful tool to force the government to cut spending. However, there aren't enough of them to wield this ax. For more, see Fox News, Boehner Says House to Pass Clean Debt Limit Hike.

On October 17, 2013, Congress agreed to a deal that would let Treasury issue debt until February 7, 2014. If it hadn't, then the Treasury could not auction any new notes to pay bills. At that point, Treasury estimated it had $30 billion in cash. Here's the schedule of bills that were coming due:

  • Oct. 23: About $12 billion in Social Security benefits.
  • Oct. 31: A $6 billion interest payment, $3 billion in Federal employee wages and $2 billion to Medicare providers.
  • Nov. 1: A whopping $58 billion would come due for Social Security and disability benefits, Medicare, and military pay. There would not have been enough incoming revenue between October 17 and November 1 to make that big of a payment.
  • November 14: Social Security benefits of $12 billion were due.
  • November 15: A $29 billion interest payment on outstanding Treasuries would not have been paid. The U.S. would have defaulted on its debt for the first time in its history.

Treasury Secretary Jack Lew first warned on September 25, 2013, that the debt ceiling would be reached on October 17. Many Republicans said they would only raise the ceiling if funding for Obamacare were taken out of the FY 2014 budget. At first, it looked like House Speaker John Boehner would pass a debt ceiling override without them. He doesn't want Republicans to be blamed for another fiasco like the 2011 debt ceiling crisis

On September 20 Boehner changed his mind. He promised to defund Obamacare, by any means necessary -- whether it meant the budget or the debt ceiling would be held hostage. Another crisis was underway. 

On October 1, 2013, Congress allowed the government to shut down because no funding bill had been approved. The Senate wouldn't approve a bill that defunded or delayed Obamacare. The House wouldn't approve a bill that funded it. Boehner announced he wouldn't raise the debt ceiling unless Democrats agreed to negotiate cuts in mandatory programs, such as Medicare, Medicaid and Obamacare. President Obama wouldn't negotiate a budget until the House approved a funding bill and raised the debt ceiling. At the last minute, the Senate and House agreed upon a deal to reopen the government and raise the debt ceiling. For more, see Government Shutdown.

Earlier that year, in January, Congress used the threat not raising the debt ceiling to force the Federal government to cut spending in the FY 2013 budget. Its position was that one dollar of spending should be cut for every dollar the debt ceiling was raised. President Obama replied he would not negotiate, since the debt was incurred to pay bills that Congress already approved. Fortunately, better-than-expected revenues meant the debt ceiling debate was postponed until the fall. (Source: Atlanta Blackstar, Debt Ceiling Postponed, January 23, 2013)

2011 Debt Ceiling Crisis

In 2011, Congress learned that threatening to NOT raise the debt ceiling was a poor way to manage the budget. The uncertainty surrounding this crisis was one reason the bond rating agency Standard & Poor's lowered the U.S. credit from AAA to AA+ in August 2011. It caused the stock market to plummet.

As a result, Congress raised the debt ceiling in early August by passing the Budget Control Act. That allowed the debt ceiling to be raised to $16.694 trillion. The Act also required a Congressional Committee to suggest ways to reduce spending. The Simpson-Bowles Report developed a lot of good suggestions to reduce the debt, but neither Congress nor the President adopted it. Instead, a set of mandatory tax increases and spending cuts, known as the fiscal cliff, were enacted to take place on January 1, 2013.

Congress avoided the fiscal cliff by passing the American Taxpayer Relief Act. It reinstated the 2 percent payroll tax, and postponed the budget cuts, known as sequestration, until March 1, 2013, to allow time for a budget to be negotiated. However, Congress couldn't agree on budget cuts by the new deadline, allowing sequestration to kick in. For more, see Fiscal Cliff 2013