A debt limit primer: What your clients need to know now

A debt limit primer: What your clients need to know now

For the 10th time in 13 years, the United States finds itself waiting for Congress and the White House to hammer out an agreement to raise or suspend the debt ceiling as the government inches toward a potential default.

For clients who may be feeling unsettled, here’s a look at some debt limit basics that put the current situation in context.

What is the debt limit?

The debt limit, also called the debt ceiling, is a cap imposed by Congress on the total amount of money the United States can borrow to fund the government and meet its financial obligations. Because the federal government typically spends more than it brings in through taxes and other revenue, it runs a deficit and must borrow huge amounts of money to pay bills and obligations such as social safety net programs, interest on the national debt, and salaries for members of the armed forces.

An increase in the debt limit allows the government to continue spending money on existing
financial obligations, however, it does not authorize any new programs. Congress set the current debt limit of $31.4 trillion in December 2021, after setting it at $28.4 trillion on August 1, 2021.

What’s the history?

The Constitution gives Congress the responsibility to authorize government borrowing. Earlier in US history, Congress was actively involved in every decision to issue debt to pay the government’s bills. During World War I, when the government’s financial needs were great and conditions were uncertain, Congress granted the Treasury Department the authority to issue war bonds up to a specific dollar limit without requiring individual approval. In 1939, Congress consolidated caps on various forms of debt into one aggregate debt limit – then $45 billion – and gave the Treasury wide discretion on the kinds of borrowing instruments it could issue within that limit.

When was the current debt limit reached and what’s happened since?

The government officially hit its spending limit on January 19, 2023. Treasury Secretary Janet Yellen then informed Congress that the agency would begin taking a series of behind-the-scenes accounting maneuvers known as “extraordinary measures” while Congress and the White House work toward an agreement to suspend or raise the debt limit.

Secretary Yellen warned Congress that without an agreement on the debt limit, the US could
run out of money to pay its bills and be in default by June 1.

How down-to-the-wire have past standoffs gone?

The White House and Congress have faced debt limit deadlines 10 times in recent years, with
negotiations coming down to the wire in several instances. The current debt limit was set in
2021 when Congress agreed to a $2.5 trillion increase one day before a potential default.

Agreements in 2015 and 2013 were similarly reached with just a day or two left before an
expected default.

Why is the 14th Amendment being discussed as an emergency resolution?

A clause in the 14th Amendment to the Constitution reads: “The validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned.”
Some legal scholars have interpreted the language as meaning that it is unconstitutional for the government to default on paying its debts. They find in it a potential emergency solution to default that could allow the President and Treasury Department to continue paying debts and obligations even without Congressional approval to raise the debt limit. Secretary Yellen has said that invoking the 14th Amendment would present a constitutional crisis. In the past, she has argued that the debt limit is “destructive” and should be abolished.

Have other countries defaulted on their national debt?

Although it has been relatively rare that a country becomes unable or unwilling to repay its
creditors, it has happened more frequently in recent years. Since 2020, sovereign (or national debt) defaults have risen exponentially according to Fitch Ratings. The past few years have seen 14 defaults across 9 countries. In the previous two decades, there were 19 defaults across 13 different countries.

Has the United States ever defaulted?

The United States technically defaulted on its national debt for a brief time in 1979, due to technical glitches. As Congress and the Carter administration were locked in a battle over the debt limit, check-processing problems caused the government to delay payments to individual investors seeking to redeem about $122 million of Treasury bills.

Although the problem was quickly addressed and processing returned to normal within a few
weeks, it was technically a default. It caused T-bill rates to increase by 60 basis points and increased the cost of governmental borrowing by as much as $12 billion in the long term.

As you continue to monitor the impact of the debt ceiling on client portfolios, make sure to use FundVisualizer®, including its asset and sector allocation charts, to help you analyze your clients’ exposure to investments that may be affected by a US debt default.

Try FundVisualizer now.

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