Congressional Democrats and Republicans are once again battling over what seems to be an annual standoff over the country’s debt limit, or the maximum amount of money the government may borrow to pay all the existing financial obligations it has accumulated over the years. Should the government fail to agree on whether to raise or suspend the statutory debt ceiling, there is a risk that the country will be unable to pay in full and on time its outstanding expenses, including military wages; tax refunds; Social Security, Medicare and veteran’s benefits; and the costs required to continue operating federal services, such as the CDC, FAA, IRS and TSA. On a global scale, the government could be forced to default on interest payments to bondholders, ultimately reducing the county’s credit rating, triggering a potential financial crisis and causing significant injury to the county’s reputation as an economic powerhouse. The good news is that the U.S. has been in this position many times before and has used the tools available to it the avert these worst-case scenarios.
Congress has voted to adjust or suspend the statutory debt limit 61 times since 1978, according to the Congressional Research Service (CRS). During that time, the government’s failure to pass spending legislation within one week of hitting the debt ceiling resulted in nine temporary government shutdowns, the longest of which lasted 35 days at the end of 2018 and early 2019. Although the debt ceiling debate does not always signal the threat of a potential government shutdown, it is important to recognize that a suspension of the government is temporary and has historically led to a very moderate short-term economic impact.
After a three-year suspension, the debt ceiling increased in 2021 to more than $3.3 trillion, which Treasury Secretary Janet Yellen announced the country reached in January 2023. As Congress continues to negotiate on the current debt limit, the Treasury Department will use the “extraordinary measures” at its disposal to prevent a default and keep the government operating. However, investors should be aware that using these tools can add additional uncertainty to already fragile financial markets the longer it takes politicians to reach an agreement. Following are some examples of the “extraordinary measures” the Treasury may wield at this time:
The Federal Reserve Bank also has tools at its disposal to help the nation avoid a default on its outstanding debt, including reversing its current policy of quantitative easing and providing the Treasury with emergency liquidity while absorbing some of the Treasury’s credit risks. In fact, the Treasury currently has on its balance sheet approximately $14 billion in reserves the Fed and Treasury created during the pandemic.
About the Author: Shane Phillips, CFA, CAIA, CFP ®, is a senior portfolio manager and a financial planner with Provenance Wealth Advisors (PWA), an Independent Registered Investment advisor affiliated with Berkowitz Pollack Brant Advisors + CPAs and a registered representative with Raymond James Financial Services. He can be reached at the firm’s Fort Lauderdale, Fla., office at (954) 712-8888 or via email at email@example.com.
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Shane Phillips, CFA, CAIA, CFP ®, is a registered representative of and offers securities through Raymond James Financial Services, Inc., Member FINRA/SIPC.
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Posted on February 15, 2023