Monday, April 25, 2011

Debt Ceiling In a Nutshell

Just coming off the heels of the hotly debated FY2011 budget, we are staring yet another financial issue right in the face.  The Debt Ceiling.  Traditionally, unless you are a political nerd, you may not know what the Debt Ceiling is or why you should even care.  And, traditionally, I would say you are correct.  Historically speaking, it has never been a "real" issue.  Since the debt limit's introduction in 1917, each and every time the need to raise the limit came up, Congress never failed to raise it.  Of course, NOW there is the issue of not raising the ceiling and letting the country go into default.

So what is the Debt Ceiling and how does it work?

Every day the Federal Government spends money.  If the Federal Government spends more money than it takes in, it runs a deficit.  If the Federal Government takes in more money than it spends, it runs a surplus.  Recently - since the end of the Clinton administration - the Federal Government has been spending more daily (or yearly depending on how you want to look at it) than it has been taking in.  So to make up the difference, it borrows money.  The government borrows money by selling Treasury securities like T-bills, notes, Treasury Inflation-Protected securities and savings bonds to the public.

Every time the government runs a deficit, it is added to the national debt (as well as the debt it owes to itself - Social Security Trust Fund, etc.).  A limit was placed on the federal debt in 1917 when Congress passed the Second Liberty Bond Act.  Basically this puts a limit on what the government could borrow from the public without Congressional consent.

Treasury officials say we will hit that limit no later than May 16, 2011.  To avoid hitting the Debt Ceiling, Congress either has to raise the ceiling or stop spending more money than it is taking in (run a balanced budget).  Of course, balancing the budget means either they cut spending by about 40% or they increase their revenue (i.e. raise taxes) by the same amount.  Without one or the other, the US would default on its debt, which has never happened in the history of the United States.  U. S. Treasury bonds are held worldwide and if their value bottomed out, there would be a world economic crises.

Was there ever a point in time in your life when you were making less money than what you owed in bills?  I do, and if you were like me, you had to make a decision on what got paid and what didn't.  I would pay the rent, and the heating/air bill, but that cable bill had to wait until next month.  Take that same principle and expand it globally. The U.S. would have to start paying back those that hold its bond.  And just like that cable bill, there is usually a late fee attached, this time, in the form of higher interest rates.  At some point, something just wouldn't get paid; either Social Security checks or Medicare bills, somewhere, someone isn't getting the money the government owes them. 

Word from the White House is that if the government does hit the debt ceiling, the first things paid are those specified in legislation.  So Social Security checks SHOULDN'T be impacted.  But of course, anything is possible. 

So why is this an issue NOW?

And that is the $14Trillion question.  The U.S. Congress has ALWAYS raised the debt ceiling.  We've always had a deficit.  The reality of the situation is politics.  President Obama voted against raising the debt ceiling under the Bush administration and on a flip flop, he wants it raised now.  The same is true for all the Republicans that were in office under the Bush administration.  They all wanted the limit lifted, but now they are threatening to not raise it.  This shows you one thing, it is all political.  To hell with the government default, if there is a political advantage, it will be exploited.  Politicians publicly dismiss the consequences of defaulting.  Once you blemish the outstanding credit of the United States, it will be hard to borrow money.  I guess then the U.S. will know what it feels like to be denied a bank loan.

Is the Debt Ceiling an issue or could you care less?

If there is a default, who's to blame Obama or House Republicans?

The National Debt rose under Clinton (with his surplus) and under Bush, why is this an issue with Obama's administration?
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