fiscal policy and the debt ceiling

Fiscal Policy: What We Need to Know About the Debt Ceiling

Sep 26, 2013 • Economic Debates, Economic History, Financial Markets, Government, Health Care, International Trade and Finance, Macroeconomic Measurement, Money and Monetary Policy • 421 Views    No Comments

Like me, you might have thought that the US has not yet reached its debt limit.

But actually it has.

The story is unimaginably complicated. From what I can discern in a Congressional Research Service report, for the last 9 months or so, the Congress created “loopholes” that let the Treasury borrow more. The debt ceiling was not formally raised. But it sort of was. Now though, even the loopholes have been closed. In an August 26 letter, Secretary of the Treasury Jack Lew told Speaker of the House Boehner that we need to raise the ceiling again (the 11th time since 2001). The alternative? “…irreparable harm to the American economy.”

Discussing the debt ceiling, we should first take a look at the debt. Whenever the US borrows, someone, somewhere buys a Treasury security such as a bond. The US gets the money. The lender gets the bond–an IOU– and the promise that it will be repaid with interest (for most types of securities).

So who has more than $16 trillion in government securities?

Actually, we do. We owe 2/3 of the debt to ourselves. The US government lends to itself by using, for example, Medicare trust fund cash it does not need. Meanwhile, domestically, individuals, businesses, state governments, local governments, pension funds–the list is long– also buy US Treasury securities.

The rest of the US debt is held by foreign governments, businesses and citizens with China and then Japan at the top of the list. Next are Caribbean Banking Centers, Oil Exporters, Brazil and then still, a long list with South Africa at the bottom.

We have a debt ceiling because of a 1917 law. At the time, the Congress decided it was losing control of the volume of borrowing. To regain power over the federal purse and fiscal policy, they said, “We will decide the maximum amount the U.S. can borrow.” And, from that day onward, whenever necessary, they voted to raise the debt ceiling.

It sounds rather simple. But the politics have been unbelievable (actually believable). Repeatedly, different law makers have tried to attach conditions to debt ceiling legislation such as Social Security changes, bombing Cambodia, voluntary school prayer and even a nuclear freeze.

So the current exchange surrounding the debt ceiling is nothing new.

If you are concerned with the size of the debt, it is helpful to compare it to the GDP–sort of like deciding whether your mortgage is too big by comparing it to your income.

Fiscal Policy federal debt as percent of GDP
From: Congressional Research Service

A question: Do you believe the Congress should have power over the debt ceiling? Please let us know your opinion in the comments.

Sources and resources: If you read just one paper on the debt ceiling, do look at this one from the Congressinal Research Service. It also was fascinating to see the letter that Treasury Secretary Lew sent to the Congress.

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