What Is the U.S. Debt Ceiling & How Does It Work?

If the national debt exceeds the debt ceiling for long enough, and congress doesn’t take action to raise or suspend it, the federal government could default on its debt. 

Robin Schreiner vuia Unsplash; Canvaq

Just like individuals and businesses, governments often borrow money to finance various operations. The bulk of the United States’ outstanding debt is in the form of treasury securities, and the total amount owed by the federal government is known as the national debt. As of this article’s last update, the national debt stood at around $31.46 trillion.

What Is the Debt Ceiling in Simple Terms?

The debt ceiling (also called the debt limit) is the maximum amount of borrowed money the United States government is allowed to owe at any given time. In other words, it’s a borrowing restriction that the federal government enforces on itself—essentially a self-imposed cap on the national debt.

The debt ceiling has existed since 1917, when it was created as part of the Second Liberty Bond Act, but it has been raised and suspended many times over the ensuing decades. As of this article’s last update, the debt limit stood at $31.4 trillion.

Callout: The U.S. and Denmark are the only two countries worldwide with legal debt ceilings.

What Is the Purpose of the Debt Ceiling?

The debt ceiling was created during World War I to help regulate government spending and encourage the federal government to be financially responsible with its use of debt. In the same way a credit limit exists on a credit card to prevent an individual from spending too much borrowed money, the debt ceiling exists to discourage overborrowing on behalf of the U.S. government.

What Happens When the National Debt Approaches the Debt Ceiling?

The national debt has approached the debt ceiling on countless occasions, and in most of these, Congress has acted to raise or suspend it. So long as the government is able to borrow new money to make payments on its existing debt, it doesn’t risk default—it simply increased the already gargantuan national debt.

Between 1960 and 2021, congress raised the debt ceiling 78 times. More recently, however, moves to raise the debt ceiling have sparked heated inter-party debate and resulted in tense congressional deadlocks and temporary government shutdowns, spooking the financial markets and making the dreaded possibility of a national default look a lot more realistic.

Sometimes, the national debt reaches or exceeds the debt ceiling before it is raised or suspended. When this occurs, the Department of the Treasury is forced to resort to what it calls “extraordinary measures” in order to continue to make payments on existing debt until a deal can be reached to raise the ceiling. These measures typically include delaying or canceling auctions of new government bonds, pausing payments to government employee savings programs, or reducing spending in other ways.

What Would Happen if the U.S. Defaulted on the National Debt?

When the national debt begins to bump up against the ceiling, the federal government can no longer borrow new money to make payments on its existing debts, which could theoretically result in a default if the ceiling is not raised or temporarily suspended. If the United States did default on its national debt, the consequences could be disastrous and far-reaching.

In January of 2023, former Federal Reserve Chair and current Treasury Secretary Janet Yellen wrote “Failure to meet the government’s obligations would cause irreparable harm to the U.S. economy, the livelihoods of all Americans and global financial stability.”

A default would lower the country’s credit rating, making future borrowing more expensive. It would also temporarily inhibit the government’s ability to fund crucial programs like social security and Medicare. A think tank known as Third Way estimated that a national default could also raise 30-year mortgage costs by $130,000, cause 3 million job losses, and raise interest rates to unmanageable levels for most consumers.

Most analysts agree that a prolonged default would also devalue the U.S. dollar, tank stock prices, and cause a severe and potentially long-lasting economic recession.

What Is Happening With the Debt Ceiling Right Now?

The national debt exceeded the debt ceiling on January 19, 2023. At that point, the “extraordinary measures” discussed above were implemented, but Treasury Chair Janet Yellen warned that even with these measures in place, the federal government would run out of money by around June 1, 2023.

Congress and Joe Biden’s White House must now come to some sort of deal to raise or suspend the debt ceiling or risk default. However, the Republican-controlled house, led by Speaker McCarthy, is unlikely to agree to this without the implementation of new restrictions on government spending.

Biden has been quoted as saying “to be clear, this negotiation is about the outlines of what a budget would look like, not about whether or not we’re going to pay our debts … The leaders all agreed, we will not default. Every leader has said that.”

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