The U.S. Is About to Hit Its Debt Ceiling! So?

First things first, what is the debt ceiling anyway?

The debt ceiling is exactly what its name implies – the maximum debt the U.S. is allowed to build up. When the U.S. can’t adequately fund its spending plans with its tax revenues, it’s often forced to borrow money. To make sure that the Treasury doesn’t go overboard and drown the U.S. in debt, the Congress sets a debt ceiling to control how much it can borrow.

Right now, the debt ceiling stands at 14.3 trillion USD, which is already ginormous by all measures. Yet many are calling for the U.S. to raise it even more. How come?

The problem is that the U.S. is already dangerously close to bumping its head and hitting its debt ceiling. Treasury Secretary Timothy Geithner says that unless the U.S. lifts the ceiling by August 2, 2011, poop will hit the fan. However, policymakers are still divided on the matter of how they should “raise the roof.”

Democrats want spending cuts AND tax hikes to help temper U.S. debt in the event the government decides to increase its debt limit. On the other hand, Republicans want to rely purely on spending cuts and want nothing to do with tax increases. Ayayay! Leave it to the leaders of the world’s largest economy to bicker like little girls.

Economic gurus are already getting frustrated with the ongoing debate. Some analysts argue that if the Congress doesn’t raise the debt ceiling on time, the government could default on its debt. Yikes!

Geithner says that we would see the most significant impact on investor confidence if the Congress fails to act before the August deadline. The 6-point increase in credit default swaps spreads on U.S. bonds over the past couple of months is interpreted by many as a sign that investors are demanding higher interest rates to hedge for the possibility that the U.S. may not be able to pay bondholders. Uh oh…

But don’t worry, just yet! You should know that there are a handful of economic gurus who do not share this view. Yes, the Treasury will have to prioritize its spending but debt and interest payments would probably be at the top of its list. Probably.

Another problem would be the massive cutback in spending. If the debt ceiling isn’t raised, it would only be a matter of weeks (or even days!) before certain Social Security and Medicare benefits would be suspended. The government may even send a handful of employees to the jobless claims queue. Consequently, with the prospect of more Americans losing confidence and jobs, some naysayers think that the economy could dip back into recession!

With all these scenarios painting a gloomy fundamental landscape for the dollar, I wouldn’t be surprised to see the currency head down south as concerns about the debt ceiling gain steam. Perhaps we may even see the U.S. Dollar index trade back down to its previous low at 73.50. After all, a few market junkies are already saying that the recent dollar weakness is due in part to the heated debates in Washington.

USDX Daily Chart

So I guess all that’s left to do now is wait and cross our fingers for U.S. policymakers to come to an agreement to raise the debt ceiling. What do you think? Should the Congress raise it now or delay it a little longer to foster fiscal discipline?

  • Buckscoder

    Around 15 trillions divided by 300 million people is a debt of 50000 dollars on every single person (babies and childs included). Just take a conservative interest of 5% a year and that would be 2500 dollars every year what has to be paid via taxes just to keep that debt at it’s limit (not decreasing it). Whoever wants to increase that must be either retarded or corrupt or both.

    • GuestThorn

      I disagree, Buck. 5% interest may have been conservative for the past several decades, but this isn’t the boom time of the last 50 years anymore. It’s a radically different age. You’ll be lucky to find 1% annual interest at banks nowadays. US 30-year treasuries are selling for less than 2% interest a year.

      Particularly when you factor in inflation, which has lately been HIGHER than the interest the US pays on its debt (US treasuries), the real cost of our debt (aka not just the number we owe, but how many medecine pills, tanks, barrels of oil, flat screen tvs etc. it represents) has been decreasing. When it comes to the real world, we risk very little by raising the debt ceiling.

      If we DON’T raise the debt ceiling, we’re risking a lot. If we default on our debt, we risk China flooding the global market as it tries to unload all of its US debt. We risk a global financial meltdown because we built the global financial system to revolve around us.

      That’s how I see it. If anyone has a valid objection to this, please feel free to reply. Because right now, all of the arguments that I’ve heard for NOT raising the debt ceiling have been missing the key points that I’ve listed above and are basically “Debt is BAD!” arguments that exclude the finer points of financial realities.

      • Buckscoder

        GuestThorn, thank you for the reply and to share your opinion. Okay that with different interest is an argument. However, inflation is not good for the people either. That devalues the money. So, if you calculate lower interest then you have more inflation. However you turn it, it is bad for the people. Plus beside of interest there is still the debt of 50k on every single person. Do you believe that could be paid back any time? No, that’s why inflation gets more and more out of control. Real inflation right now how I calculate it is around 10% per year. Right now increasing. That’s why gold is going up.

        The point is that nobody can build real value out of debt in the long run. In the short run, yes. But not in longer terms thinking. It is not different if you compare that with a private household. If the debt is too high, it will lead to defaults. And if the government makes more debt, that is like fighting the fire with more fire. At the end there will be a burst of a gigantic dollar debt bubble.

        • Joshua Pearce Gibson

          and what exactly is your method for calculating real inflation?

          • Buckscoder

            Several things. Gas receipts, gold price ratios, etc.

  • selineB

    At the moment, the United States Congress and President Obama are locked in a battle over increasing the debt ceiling for the government. It appears to be yet another partisan argument, but the outcomes could include Social Security and Medicare at risk if debt ceiling not increased. It is something to worry about our future as we get old.

  • selineB

    Though there is nearly a month to forge an agreement to raise the debt ceiling, there are already warnings being issued against allowing the federal government to default on its debt. Besides a potentially catastrophic effect on global financial markets, credit rating agency Standard & Poor’s has warned that default on debt would result in currently maturing U.S. Treasury bonds being issued a “D” rating if those bonds are not paid out on August 4. The U.S. has $30 billion in interest payments due on short term loans acquired through sale of Treasury bonds. 

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