Raising the Debt Ceiling—Let’s Do That Again Real Soon!

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Friday, August 26, 2011

When will the United States government next reach the debt ceiling? The Budget Control Act (BCA) signed by President Obama on August 2 provided at least $2.1 trillion in additional borrowing authority, which is intended to last until after the 2012 presidential election.

The actual date will depend on three future unknowns: 1) the amount of savings achieved by the Joint Select Committee on Deficit Reduction (JSC); 2) the effect of policy changes enacted into law in 2011 and 2012, particularly any near-term fiscal stimulus or deficit reduction measures (including the JSC’s recommendations); and 3) the effect on the deficit of economic growth, interest rates and inflation, to the extent that they differ from current expectations.

Setting aside these unpredictable variables – although they could turn out to be quite significant – our analysis shows that Treasury will reach the debt ceiling in early May 2013. Our forecast is based on the latest information from the Daily Treasury Statement, the Congressional Budget Office’s (CBO) August Baseline (modified to assume the continuation of current policy), and trust fund projections from the trustees of Social Security and Medicare.

Could the Date Fall Sooner?

With the economy weakening and talk of more deficit spending in the air (e.g., tax credits for hiring, infrastructure spending, extension of the payroll tax cut, extension of long-term unemployment insurance), is it possible that the date might move forward enough to play a role in the 2012 elections?

The Joint Select Committee

The BCA effectively authorized an immediate increase in the debt ceiling of $400 billion upon the president’s submission of a certification of need, which took place on August 2. A second increase of $500 billion will follow this fall, unless both chambers pass a resolution of disapproval and then override the president’s expected veto of that resolution with the required vote of 2/3 of the House and the Senate present and voting.

The JSC is required to report its plan by November 23, and Congress is required to vote on it by December 23. If the plan is voted down or if the JSC fails to agree on any additional budget savings, the ceiling will nonetheless be raised an additional $1.2 trillion (for $2.1 trillion in total) during 2012, again through the complicated certification-disapproval-veto process described above. This third increase is intended to match the magnitude of the automatic sequester that serves as a back-up to the JSC. For every dollar in savings that the JSC achieves over $1.2 trillion, the debt ceiling will be raised by an additional dollar, up to a maximum of $2.4 trillion (which equates to $1.5 trillion in JSC savings – the Committee’s “goal”).

All else equal, if the JSC is able to find $1.5 trillion in savings, and thereby authorize an additional $300 billion in borrowing authority, we would not reach the debt ceiling until late in the summer of 2013.

Policy Changes

The single biggest unknown is what additional policy changes will be enacted before the election. Depending on the magnitude of these policies, they could have a significant effect on the anticipated date. We estimate that the federal government will have about $450 billion of borrowing authority remaining at the time of the election. If, for example, the JSC were to agree to no more than $1.2 trillion in savings, Congress were to enact $500 billion in net new deficit spending, and all else remained equal, the debt ceiling would be reached in advance of the November election. Even a smaller deficit spending bill of $350 billion would bring the debt ceiling forward into late 2012.

Economic Variables

Changes in economic conditions also can affect the debt ceiling date. For example, CBO’s August Baseline projects growth of 2.6 percent in the fiscal year ending September 30, 2012. Given today’s downward revision of second quarter growth from 1.4 percent down to 1 percent, there is ample reason to believe that CBO’s estimates may be optimistic. If growth were 1 percentage point lower than currently projected, CBO estimates that revenues would be $74 billion lower between now and the end of 2012. If the economy weakens even further or falls back into recession, that alone could move the debt ceiling up into early 2013.

Changes in interest rates and inflation can move the debt ceiling as well, but their effects are likely to be small in the short term. Interest rate fluctuations affect spending, but only about 1/3 of our debt rolls over every year, so changes are unlikely to have a significant effect in the short run. Moreover, most of the debt that is rolling over is short term, and already carries extremely low interest rates. Changes in inflation can be a small factor in the short term, primarily through the role of the consumer price index in government transfer payments (with the cost-of-living adjustment).

Conclusion

The Administration’s desire to avoid a pre-election encounter with the debt ceiling will be fulfilled unless the Congress enacts significant additional deficit spending to stimulate the economy. If the new deficit spending were enacted as part of a grand bargain with the necessary bipartisan support, however, the debt limit issue would probably not present a meaningful obstacle by itself.

Appendix: Extraordinary Measures

It is important to recall that when Treasury reaches the debt ceiling, it can still borrow to generate additional cash by deploying its “extraordinary measures.” In 2011, the extraordinary measures generated approximately $232 billion in additional cash after the debt ceiling was reached on May 16. This cash allowed the federal government to operate for eleven weeks (until August 2) without defaulting on any of its payment obligations.

These measures mainly involve “disinvesting” Treasury securities held in trust to pay federal employee retirement obligations. Once the securities are disinvested, they are no longer outstanding, and Treasury can issue an equal amount of securities to the public to generate cash. By law, the trust funds are made whole when the debt ceiling is eventually raised.

As the experience of 2011 showed, reaching the debt ceiling is not as significant as reaching the date past which we cannot pay all of our bills. It nonetheless seems likely that in the runup to an election, the Administration would strongly prefer not to even discuss the debt ceiling, much less to deploy “extraordinary measures,” or even contemplate doing so.

Read more posts from the Economic Policy Project here.