Here we go again. The recurring political theatrics of raising the US debt ceiling — the maximum the government can legally accumulate — are under way once more. Things usually follow a routine path: after some wrangling Congress eventually agrees to increase or suspend it — the ceiling has been amended 78 times since 1960. But every so often the threat to hold it hostage to extract concessions runs until the last minute, raising the prospect of government shutdowns, missed social security payments and a disastrous default on debt. This year the risks of a crisis are particularly high, at a time of global economic and financial market fragility. A political deal to raise the debt limit is paramount. Better still, the US should consider ditching the ceiling altogether in favour of a saner alternative.
Periods when there has been a Democratic president with a Republican-majority House, following a notable rise in debt, have produced some of the most disruptive debt ceiling episodes. This includes 2011, when the US’s credit rating was downgraded. The Republicans were always going to seek concessions to raise the ceiling this year. But the palaver over electing the House speaker, Kevin McCarthy, has only amplified the chances of brinkmanship. To garner hardline Republican votes, McCarthy pledged to attach large spending cuts to any legislation raising the debt limit. That is a non-starter for the Democrats.
The clock is ticking to find an agreement. The US hit its statutory $31.4tn debt ceiling last week. Extraordinary measures, cash on hand, and tax receipts could now sustain the government until at least June. The US could then prioritise debt payments to avoid a default, but only at the expense of other obligations — revenues only cover about 80 per cent of spending. Cutting expenditure to balance the budget would push the US economy into recession. By then, waning confidence and higher borrowing rates would have already done damage. Beyond that, a default would be catastrophic. The credibility of US debt — a linchpin of the global economic system — would be shattered. Treasury Secretary Janet Yellen warned of a “global financial crisis”.
There are no quick or easy options to circumvent the impasse. Using accounting trickery by minting a $1tn coin and depositing it at the Federal Reserve, issuing very high-interest bonds or innovative forms of government securities have all been suggested. Others propose invoking the 14th amendment, which says the validity of US debt “shall not be questioned”. These paths are untested, have dubious legal grounds and are likely to incur challenges, which will only amplify market anxieties. As it is, liquidity has been drying up in Treasury markets.
That such underhand options are being discussed is a measure of just how ludicrous the debt ceiling is. Few countries have limits on nominal government debt, which needs to be raised to due to inflation even if the real level of debt itself does not increase. It also curtails funding for measures already passed into law. Denmark’s high ceiling causes little friction, while Australia repealed its own after similar deadlocks.
It is a nonsensical way to set tax and spending decisions. To prevent the size of the state ballooning, targeting debt sustainability measures would be far more suitable. At the very least, parties should agree to automatically authorise any borrowing needed to fund new legislation. A bipartisan commission could also look at longer-term spending reforms. Political will to agree on any changes will be the sticking point. In the near term, Democrats and Republicans must instead find common ground to raise the ceiling. The potentially dire fallout — for both the US and global economy — ought to focus the minds.
