Come mid-October, the U.S. government will no longer be legally allowed to issue more debt, according to a letter written by Treasury Secretary Jack Lew to Congressional leaders earlier today. That’s when the Treasury will exhaust the so-called “extraordinary measures” it has undertaken to avoid going over the Congressionally imposed limit on total federal debt of $16.7 trillion set in a budget deal in May.
The limit on federal borrowing is a holdover from a time when Congress would individually approve each new issuance of debt. As the financing needs of the federal government became increasingly complex during the 1930s, it decided to move towards an aggregate limit on debt, allowing the Treasury Department more freedom to decide on the timing and nature of debt issuance as long as it remained below the congressionally-mandated debt ceiling.
There is, of course, a redundant quality to all of this. Because Congress controls both spending and taxation, it can control the total level of debt without needing to set a debt limit at all. And in recent years, the existence of the debt ceiling has become an issue of global consequence, as congressional Republicans have used the threat of not raising it as bargaining tool to extract concessions on spending cuts from President Obama and Democrats.
Economists like University of Michigan’s Justin Wolfers have argued that the first of these showdowns in the summer of 2011 hurt the economy by reducing both consumer and business confidence. It was also a motivating factor in the S&P’s downgrading of the United States’ credit rating, which reflects borrowers’ confidence that the U.S. will meet its financial obligations.
And the refusal to raise the debt ceiling would amount to the United States refusing to pay what it already owes. So far, Washington has managed to avoid finding out what would happen if it defaults on its obligations, but the consequences would most likely include higher interest rates, as well as confusion and panic in financial markets across the world. In his letter, Secretary Lew argues that failing to raise the debt ceiling would “cause irreparable harm to the American economy.”
Republicans, however, are not swayed by this argument. In a press conference last month House Speaker John Boehner reiterated that he is unwilling to raise the debt ceiling without proportional cuts in spending. President Obama, on the other hand, has indicated he is unwilling to negotiate over the debt ceiling. Whether these men mean what they say, or whether this is just another in a long series of games of political chicken, we’ll find out in the coming months.