The clock is rapidly ticking on the debt ceiling debate. Treasury Secretary Janet Yellen has said the U.S. could run out of cash as soon as June 1, which would likely trigger a default on the national debt if the debt ceiling isn’t raised.
The Republicans in Congress recently passed a budget that raises the debt ceiling for a year in exchange for a decade of spending reductions totaling an estimated $4.5 trillion. They want to exempt defense spending, veterans health care, Social Security and Medicare from cuts, which would mean a deep contraction of funding for other discretionary programs.
President Joe Biden and the Democrats oppose many of the cuts in the Republican budget. Biden has said he is willing to negotiate with Republicans about the federal budget but is so far unwilling to tie those talks to raising the debt ceiling.
In the Q&A below, Robert M. McNab, chair of the Department of Economics and director of the Dragas Center for Economic Analysis and Policy and in the Strome College of Business, offers his perspective on where things stand – and where they might be headed.
51Ç鱨վ News: Let’s start with a little history of the debt ceiling. The U.S. and Denmark are the only countries that have one. Could you explain what prompted to U.S. to create one and how the use of it has evolved over the years?
McNab: The debt ceiling was created during World War I to allow the U.S. Treasury to issue debt without specific Congressional authority. Between 1938 and 1941, Congress created a limit on total accumulated debt, eliminated limits on specific kinds of debt and placed almost all debt under the management of the U.S. Treasury.
51Ç鱨վ News: Since federal borrowing authority expired in January, the Treasury Department has been using “extraordinary measures” to keep paying the bills. Can you explain what they have entailed and their impact on American citizens?
McNab: “Extraordinary measures” means that the Treasury Department, in essence, robs Peter to pay Paul by not funding some things to pay for ongoing operations. In January, the Treasury said that it would take four actions: (1) it would redeem existing investments and suspend new investments in the Civil Service Retirement and Postal Service Retiree Health Benefits Fund; (2) it would suspend reinvestment in the Government Securities Investment Fund; (3) it would suspend reinvestment in the Exchange Stabilization Fund, and (4) it would suspend sales of state and local government series Treasury securities. By taking these actions, the Treasury conserves space under the debt limit. Once the debt limit is lifted (assuming it is lifted), the Treasury will have to make up for lost contributions to the retiree funds.
51Ç鱨վ News: Assuming there’s an 11th-hour resolution of the crisis, there still could be long-lasting economic impacts, as we learned in 2011. Could you explain what that could look like this year?
McNab: We are already seeing impacts on short-term bond yields. One-month Treasury yields have jumped by more than two percentage points and the three-month yields are starting to increase as well. In other words, investors are demanding more interest from the U.S. government to offset the risk of a default. This will cost taxpayers millions (if not tens of millions) of dollars immediately and, if we get very close to a default, it could result in billions of dollars of additional interest payments. That’s money that could have been spent elsewhere or not at all.
51Ç鱨վ News: The economic consequences of a default would likely ripple across the globe. But could you elaborate on the impact locally? What sectors and populations would be most affected, and how severely?
McNab: A default would be catastrophic for Hampton Roads, and that’s likely an understatement. Federal spending, directly or indirectly, accounts for four out of every 10 dollars of economic activity in the region. A default would mean immediate cuts to federal spending, and the cuts would likely be across the board. We would see military service members’ pay and benefits stop, federal and military retiree pay reduced or stopped altogether, Medicare and Medicaid would not be able to pay their bills, and, in a prolonged default, Social Security payments could be reduced by 25% or more. Defense contracts would face stop work orders. There would be a shortage of paid TSA agents, port inspectors and so on. An actual default would create an immediate recession in Hampton Roads, and a prolonged default would be like the spring of 2020 when the economy “shut down” because of the COVID-19 pandemic. I cannot emphasize enough how devastating an actual default would be for residents of Hampton Roads.
51Ç鱨վ News: There has been talk of invoking the Constitution’s 14th Amendment, which states “the validity of the public debt of the United States, authorized by law, … shall not be questioned,” to raise the debt ceiling. President Biden has said he’s “not there yet.” Do you see this as a viable option?
McNab: I’m not a lawyer, but the 14th Amendment might be a road that the administration decides to travel down if a default is imminent. The question is what happens while the courts figure out if the debt ceiling and a default are constitutional or not? We are in uncharted territory here, and we really need both sides of the aisle to recognize that we are all in the same fiscal house and setting this house on fire doesn’t benefit anyone politically or economically. We need to make hard decisions on reducing spending and increasing taxes to get our fiscal house in order, but threating to create a global financial crisis to make this discussion happen is not the wisest course of action. Given the inability of both parties to engage in fiscal discipline, maybe it is time for a balanced budget amendment to force lawmakers to balance the books and pay off the public debt.