For Americans, debt is a natural part of life. Many Americans have some kind of debt, whether it’s a car payment, a mortgage, or a credit card. However, while managing debt on a personal level can be relatively simple (i.e., you make payments and reduce it incrementally), debt on a national level can be far more complicated.
While we won’t get into too much detail about the nature of the national debt, we will discuss the debt ceiling, which is at risk of being breached, leading to a default situation. Suffice to say, if that does happen, the American economy (and, by extension, the world) will be reeling from its effects for years to come.
So, today we want to talk about the debt ceiling – what it is, where it’s at, and what it means to have it raised or suspended. Although most people probably don’t know anything about the debt ceiling, it affects everyone, so it’s necessary to understand how it works and why it matters.
What is the Debt Ceiling?
A century ago, whenever the US government issued new debt, it did so individually. If the government borrowed money for the military or some other project, it would have to manage it with a unique piece of legislation. When these amounts were relatively small (compared to today’s numbers), that kind of process made sense.
However, during World War One, it became clear that maintaining the status quo was no longer going to work, which is why the Second Liberty Bond Act was issued in 1917 (at a paltry $11.5 billion). The goal of the bond was to simplify matters, but it wasn’t until 1939 that Congress established the first so-called “debt ceiling.”
Simply put, the debt ceiling is the legal limit that the country can owe, which includes debt held by the public, as well as any that the government owes itself by borrowing from various agencies and organizations to help pay for different things.
Right now, $16.2 trillion is held by the public, and $5.9 trillion is owned by the government, leading to more than $22 trillion total. That number is significant because the current debt ceiling is at $22 trillion, meaning that we have already reached the threshold.
How is the Debt Ceiling Established?
At the moment, the $22 trillion number was created because that’s what the US owes currently. Before March 1st of this 2019, the debt ceiling had been suspended as a result of the Bipartisan Budget Act of 2018. Once the term of that act finished, the debt ceiling was re-established to match whatever is currently owed.
Since Congress is in charge of the budget and how the government spends its money, policymakers in the House of Representatives have to pass new legislation to raise the debt ceiling, not only to ensure that we don’t default, but that we don’t reach the limit again immediately.
Why is Exceeding the Debt Ceiling Bad?
As you can imagine, being at the legal limit for debt is not a good thing. It’s like maxing out all of your credit cards at once. While theoretically, you could make payments to reduce that debt and give yourself some breathing room, that assumes that you are making more than you’re spending so that can happen.
Unfortunately, the US government is not in that position right now. Money coming in will not exceed the amount of debt being issued, which is why the ceiling has to be raised or lowered. According to most projections, the United States is not going to be earning more than it’s spending, so the ceiling has to be raised substantially to ensure that we don’t default.
Defaulting on our debt is a bad thing, no matter how you look at it. The fact is that the US economy is a significant lynchpin for the global economy, meaning that if the country were to default on its debt, the ramifications would ripple out across the globe.
While we won’t get into too many details, it would weaken the credit rating of the country, people and other governments would stop investing in the treasury (i.e., T-bills), and it would lead to substantial chaos and instability.
What Can be Done?
While raising the debt ceiling is a necessary measure for the short term, the best thing to do is enact financial legislation that will lower the debt and make sure that we don’t come close to reaching the ceiling again anytime soon.
Unfortunately, there aren’t many ways to do that beyond budget cuts and raising taxes, which are both highly unpopular. There are other methods that countries can use to lower the national debt, such as offering low-interest rates and better trade deals, but they can have minor effects, particularly if used for the long term.
Bottom Line
Right now, the United States is in a bind, meaning that Congress will have to vote to either raise or suspend the debt ceiling. Government spending is not going away anytime soon, so this number will only get larger over the coming years. Thankfully, it’s a problem we’ve dealt with before, so getting out of it shouldn’t be impossible.
