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Debt ceiling does more harm than good as currently constructed

Debt ceiling does more harm than good as currently constructed
© YouTube/The Wall Street Journal

A longstanding Washington tradition is watching Republicans and Democrats in Congress find creative ways to avoid voting to increase the ceiling on federal debt.

Since 2011, Congress has either delegated authority to increase the debt limit to the president or suspended the ceiling rather than increase it permanently. The most recent suspension ended on Dec. 8, and the government may run out of ways to skirt the ceiling as soon as February.

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The statutory debt ceiling limits the maximum amount the federal government can borrow to fund its pre-existing commitments. It applies both to federal debt held by the public and to debt held internally by the government in accounts such as the Social Security Trust Fund.

 

The Treasury can use so-called “extraordinary measures” to continue paying the government’s bills even after the government runs up against the ceiling, but at best, those measures will buy only a few months’ extra time. At that point, the federal government could be forced into default by delaying or reducing some of its legally obligated payments.

The debt ceiling does have some benefits. It provides an incentive for bipartisan compromise by giving the minority party in Congress leverage to slow the legislative process and receive concessions on some of its policy priorities.

Such incentives are valuable in this age of increasing polarization in Congress. Additionally, the debt ceiling provides a periodic impetus for Congress to take stock of the nation’s steadily growing debt, although it is unclear how effective this idea has been in practice.

These benefits must be judged against the costs of standoffs over the debt ceiling and the potential damage that breaching the ceiling could do. In 1979, an accidental mini-default following a debt ceiling spat led to a 60-basis-point jump in short-term interest rates on Treasury securities.

A similar increase today could cost tens of billions of dollars in additional interest payments. Shortly after the 2011 debt ceiling fight, Standard and Poor’s downgraded its rating of the U.S. government’s credit from AAA to AA+.

If prolonged and bruising fights over the debt ceiling become the norm, they could jeopardize the U.S. dollar’s role as an international reserve currency and increase interest rates throughout the economy.

There are no attractive options for the Treasury to avoid default on the nation’s debt after extraordinary measures are exhausted. It is now known that Treasury had developed emergency procedures to prioritize debt repayment in 2011, despite issuing public denials.

Alternatively, the administration could disregard the debt ceiling completely in light of the 14th Amendment’s provision that “The validity of the public debt of the United States … shall not be questioned.”

Further afield, the Treasury could mint a “trillion-dollar” platinum coin under authority of a 1996 law originally intended for commemorative coinage. Each of these options comes with serious legal and financial risks that could destabilize markets and cause serious damage to the economy.

Considering these risks, we believe that the costs of the debt ceiling outweigh its benefits. Although we don’t see a repeal of the statutory debt limit coming in today’s political environment, there are realistic steps that would minimize the impact the debt ceiling has on the legislative process.

After the 1979 mini-default, Rep. Dick Gephardt (D-Mo.) established a rule that when the House voted to approve the annual congressional budget resolution, it automatically approved a change in the debt ceiling without a separate vote.

The Gephardt House rule lasted, with some suspensions and repeals along the way, through 2011. Its return today would be a welcome development. Another possible solution would be to revive the “McConnell rule” contained in the 2011 Budget Control.

The rule delegated the authority to seek debt ceiling increases to the president, subject to congressional votes of disapproval. These rule changes could be passed via simple majorities, so they are feasible under the current Congress.

These procedural changes would come with real drawbacks, reducing the power of the congressional minority and removing one of the few incentives for fiscal discipline.

We believe, however, that defending the full faith and credit of the U.S. government from any doubts is well worth those costs. We hope that the next debt ceiling fix does more than kick the can down the road a few more months.

Gabriel Ehrlich, Daniil Manaenkov and Aditi Thapar are economists at the University of Michigan’s Research Seminar in Quantitative Economics (RSQE).