It’s ba-hack!

Yes, the US government debt ceiling is back, but is the US government going to default? I doubt it.

Anyone who has been in the financial markets for a while will undoubtedly be aware of this phenomenon: the squabbling that breaks out now and then about the US debt ceiling. But what is it actually? US law states that its government debt in absolute terms must not exceed a predetermined maximum. That level is now USD 19.8 trillion, which is more or less the current debt figure.

If you examine it closely, it’s an absurd concept. Where political parties in the rest of the world generally just argue about budgets, in the US it’s more complex: even if the budget has been approved by Congress, it is possible for that same Congress to later make a fuss about debt levels rising further. The fact that both decisions are closely related doesn’t really seem to matter. So it’s probably not very surprising that this ceiling mechanism has not really been terribly effective. Since it was introduced in 1917, it has been raised more than a hundred times and on most of these occasions there were few problems.

America in default?

However, every so often things go wrong. For example, in 1985, 1995-6, 2002, 2003, 2009, 2011 and 2013 there were times when the debt levels temporarily hit the maximum level and political agreement to raise the ceiling came too late. In contrast to what some headlines say, that doesn’t actually mean that the US government is going to default. It’s not like Greece, for example. It is not even a problem when an old bond matures: The Treasury Department can just issue a new one to replace it. There’s no problem rolling over debt, provided it does not lead to an increase in the total level. However, this does mean that the US government cannot spend one cent more than it receives. A compulsory budget balance, in fact.

And that is not easy. Not only is the US budget deficit currently around an annualized 3% of GDP, but to make things even more complicated, income and expenditure are not evenly distributed over the year. For example, a payment of USD 81 billion to the Military Retirement Trust Fund is scheduled for 2 October, which according to the latest estimates will probably be the straw that breaks the camel’s back. Will that be the point at which the government defaults? Not directly, but from then on, the Treasury Department will have to make some painful choices about which payments will no longer be made.

The day that we hit the ceiling: X-date


This happened, for example, in 1995-’96, when the Republican Congress and Democrat President Clinton were on a collision course. Clinton refused to approve plans put forward by a Congress with a Republican majority, after which they then used the debt ceiling to put him under pressure. Both parties persisted in sticking to their guns, so Clinton finally decided to send people working for the ‘non-essential’ parts of the government’ home. Of course, this had consequences: government staff received no money (and consumed less), national parks were closed, government services ground to a halt. Certainly painful, but even in this case there was no question of the government defaulting.

Things can only go really wrong if the Treasury Department decides not to pay interest on outstanding debt: in that case the US government is no long fulfilling its obligations and this can be officially constituted as a default. There is actually very little chance of this happening.


The chart above is my favorite on the subject of the debt ceiling, by the way. It dates back to 2011 and shows how votes were cast in Congress when the debt ceiling had to be raised. The graph makes it painfully clear that the debt ceiling issue is generally played out along party lines: Republicans/Democrats* vote to raise the ceiling if their ‘own’ president is in the White House, but take up a completely different stance if the other party is in residence in the White House. This time it is all slightly more complicated, because it is Trump himself who is threatening to close down the government (he is demanding that money be set aside to build the Mexican wall) and because there are some serious rifts within the Republican Party. Even though the Democrats have a minority in Congress, this discord is actually strengthening their hand, causing increased unrest – despite the Republican President and Republican majority in Congress.

All is all, there is quite a lot at stake in September. In the course of a month a budget needs to be approved and a decision has to be made about raising the debt ceiling. In normal circumstances, that is a pretty tight schedule, but if Trump wants to also see some of his electoral promises taking form (tax system reform, Mexican wall) then it suddenly all becomes extremely ambitious. However, given that shutting down the government doesn’t usually have a positive effect on a president’s popularity, it seems unlikely that Trump will follow through on his threats. Something we are becoming increasingly accustomed to.

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