Ep #76: The Debt Ceiling
The debt ceiling is in the news again and seems to be in the news every year or two, a perpetual crisis, always averted, sometimes at the last minute. In episode 76 of What the Wealth, we’ll discuss the debt ceiling, why it’s important, and if it’s something you should be worried about.
The Debt Ceiling Facts
The debt ceiling is the amount of money the federal government can borrow to meet its existing legal obligations, which include spending on things like Social Security, Medicare, tax credits, military salaries, and interest on the debt.
Raising it does not mean there is additional spending, just that existing obligations will continue to be funded, and the government won’t default on its debt.
Some Facts About National Debt
These are some facts about it courtesy of BGR Group:
- The debt ceiling was created in 1917 by Congress under the Second Liberty Bond Act
- Prior to the creation of it, there were some limits on the amount of debt the government could issue
- All apart from one year, 1835-1836, the US has had continuous, fluctuating debt
- Every president since Hoover has increased US debt
- The debt limit was raised at least 90 times in the 20th Century
- It has never been reduced
- From 1962-2011, the debt limit was raised 74 times, 18 under Reagan, 8 under Clinton, 7 under Bush, and 5 under Obama
- Congress has raised the debt ceiling 14 additional times between 2001-2016
- Under GW Bush, the debt ceiling was raised by roughly $5.4 billion
- Under Obama, the debt ceiling was raised by approximately $6.5 billion
- As a response to issues caused by the pandemic, it increased by $6-$7 billion
- The bi-partisan Budget Act of 2019 suspended the debt ceiling until July 31, 2021, at which time the outstanding debt was $22 trillion
- Since the suspension lapsed, the amount of debt was raised to the previous ceiling plus the additional amount that was borrowed, another $6.5 trillion
- As of August 1, 2021, the ceiling was at $28.5 trillion
- The current ceiling is $31.4 trillion
What Does This Mean?
Clearly, the government is spending much more than it brings in. It’s no different than our own household budgets. If more is going out than coming in, we either have to cut spending, bring in more money, or, ideally, both. But once the ceiling is raised and Congress knows it can print more money, it continues to spend. Raising the debt limit doesn’t directly increase spending, but does impact future spending.
This must be addressed at some point, but that’s a conversation for a different day.
The Consequences of Raising a Debt Limit
The debt ceiling never fails to make headlines, and there is a lot of posturing on both sides of the political aisle, and the issue is used as table stakes. But it is always raised, every single time. So why the scary headlines?
In 2011, Congress waited until the last minute to raise it, which led Standard & Poor’s to issue the first-ever downgrade of the US government from AAA, the highest rating, to AA. The move sent shockwaves across the credit and equities markets, and no one knew what to expect next.
In the end, it turned out not to be a big deal, but Congress playing with the creditworthiness of the US is a dangerous game. If the US were to fail to raise the ceiling and default on its debt, there would be consequences for all of us.
The cost of borrowing money, credit cards, home, auto, personal, student, and business loans would increase via a rise in interest rates. The countries that own our debt will see us as more of a risk, and just like a person with a poor credit score, the cost of taking on that additional risk is higher interest rates. Just like with investing, the more risk you take, the bigger the return you expect. In 2011, the equity and real estate markets took a hit when Standard & Poor’s downgraded the US’s credit rating.
And once again, the clock is ticking, and both parties are jousting. But the ceiling will undoubtedly be raised, the can kicked down the road a bit further, and we’ll do it all again in another few years!
But this can’t go on forever, and it’s likely that at some point, Congress will raise taxes to address the national debt. As advisors, Paradigm Wealth Partners has conversations around tax planning, and while we don’t give tax advice or file tax returns, we can look at our client’s financial plan through a tax lens and how taxes may impact their long-term decisions.
You should never make financial planning decisions based on things you can’t control. If you have questions on tax planning, reach out; we’re here to help.
Listen to the Full Episode:
What You’ll Learn In Today’s Episode:
- What the debt ceiling is and the history of it being raised.
- How the ceiling has been affected in recent years.
- Where we currently sit when it comes to debt and limitations.
- How it changes and affects spending.
- Why we don’t want to mess around with creditworthiness.
- The lesson we need to take away from this situation.
Ideas Worth Sharing:
- “The U.S. has raised its debt limit at least 90 times in the 20th century. This is not a recent phenomenon.” – Jonathan Bednar
- “Raising the national debt does not increase spending—this is a common misconception. They do go hand-in-hand, though, because once Congress realizes they can just raise the debt limit, then they know they can continue to spend whatever they want.” – Jonathan Bednar
- “Both sides are posturing, and they’re using the debt ceiling and our creditworthiness as table stakes. You cannot, in my opinion, run the risk of using our credit quality as table stakes.” – Jonathan Bednar
Resources In Today’s Episode:
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