On January 19, 2023, US Treasury Secretary Janet Yellen told Congress that the United States had reached its current debt ceiling of $31.381 trillion and begun taking “extraordinary measures” so the government could continue paying its bills. But when the government exhausts these measures and runs out of cash, likely in late summer of 2023, it will have to borrow more money or it won’t have enough revenues to pay its bills, including service existing debt, leading to a possible debt default.
To restore Treasury’s ability to borrow, President Joseph R. Biden Jr. is insisting on a “clean” bill to increase the debt ceiling without any cuts in spending. House Speaker Kevin McCarthy and the Republican majority in the House of Representatives, however, have been refusing to go along and want to cut spending. As of mid-March, the standoff continues.
Political debates over the debt ceiling and government shutdowns can be confusing for the public. This primer is intended to clarify the difference between the debt ceiling and a government shutdown while underscoring why the current situation is so fraught.
Debt ceiling confrontations, unthinkable for most of US history, have become a feature of modern American politics. Only a few decades ago, the debt ceiling was adjusted as a matter of routine. But increasing polarization of American politics has made the debt ceiling a powerful weapon of political brinkmanship—waiting until the last minute to raise it. In the last 13 years, Congress and the White House have locked horns at least 10 times over the debt ceiling. Notable last-minute agreements occurred in 1995-96, 2011, 2013, and 2021. There have also been many budget confrontations that have led to government shutdowns.
Administration officials fear the public may be conflating a government shutdown with a debt ceiling crisis, thinking the pending debt ceiling impasse will simply shut down some government operations, cause temporary inconveniences, and eventually compel lawmakers to compromise to save the day.
But failure to raise the debt ceiling by the time the Treasury runs out of its bag of tricks—the so-called X date—would have more serious economic consequences than a government shutdown (see graphic). The most concerning scenario would entail the government failing to make scheduled payments of interest and principal on existing US debt because the government would have run out of cash to make those payments. A default in such payments would damage the standing of the federal government in financial markets and diminish the perceived trustworthiness of US debt in the eyes of worldwide participants in financial markets. Global financial markets might plunge into uncertainty and chaos, with unknown—and unknowable—consequences.
The damage would likely linger for a long time, raising financing costs for the federal government in the future, potentially crowding out available budget funds for the military, Social Security and Medicare, and running all federal agencies.
Not raising the debt limit by the X date is not like a government shutdown, which occurs when annual funding for ongoing federal government operations expires and Congress does not renew it in time. Yes, government shutdowns have been costly to American taxpayers and caused disruptions, with the longest one lasting 35 days in 2018-19, but the federal government has not experienced a major default on its debt in recent history.
What is a government shutdown?
The US Constitution makes clear that Congress holds “the power of the purse”; that is, the federal government can only spend money appropriated by Congress. Like any other bill, spending measures must pass both the House and Senate and be signed by the president to become law. Congress conducts a complex “appropriations” process annually, for each fiscal year beginning October 1.
If some or all of the 12 appropriations bills are not signed into law on time, Congress can pass a temporary measure called a continuing resolution (CR) to extend funding and keep the government from shutting down. But if even a CR is not passed or if it expires during the new fiscal year without Congress appropriating new funds, parts of the federal government can experience a “lapse in funding,” which can cause what everyone knows as a “government shutdown.”
All functions of government not covered by an enacted appropriations bill cease when funding runs out, except certain narrowly defined "essential functions.” Affected government agencies and departments are forced to scale back activities or entirely shut down nonessential operations and furlough workers until funding is restored. Essential functions—such as national security, law enforcement, and emergency medical care--usually continue, but services like national parks and museums may close temporarily. How long the government remains shut down depends on how long it takes for the government to reach a spending agreement.
In the nation’s early years, the budget process was piecemeal, with Congress creating numerous budgets for multiple agencies. Beginning in the early 1920s, the president assumed overall responsibility for the federal budget. The Budget and Accounting Act of 1921 established the executive budget process but did not directly alter the Congress’s procedures to make revenue and spending decisions. Conflict between the legislative and executive branches peaked in the mid-1970s, when a Democratic-controlled Congress wanted to spend more than President Richard Nixon was willing to spend. These fights led to the Congressional Budget and Impoundment Control Act of 1974, which gave Congress the right to establish budget priorities but retained the president’s right to veto spending bills. The US budget process we see today originates in these laws.
Since 1977, there have been 20 appropriations lapses that lasted for a day or more. These resulted in government shutdowns only starting in the early 1980s, when President Jimmy Carter sought legal clarity on the system from US Attorney General Benjamin Civiletti, who concluded that government agencies had no legal means to operate during a funding gap. The gaps before Civiletti issued his opinions in 1980 did not have a major impact on government operations: Agencies would often continue to operate during a lapse, with the expectation that funding would be restored in the future.
But in at least 10 cases since Civiletti’s 1980 ruling, funding lapses have resulted in a shutdown of affected government operations. Apparently the first ever shutdown of a government agency occurred on May 1, 1980, when the Federal Trade Commission (FTC) had to temporarily shut down its operations because Congress held up appropriations because of a dispute over whether the FTC was exceeding its authority in regulating business. The standoff lasted one day.
While disruptive and costly, shutdowns have not been catastrophic. The Congressional Budget Office estimated the cost to the US economy of the 2018-19 shutdown, which lasted 35 days and stemmed from Congress’s refusal to fund President Donald Trump’s border wall, to be about $3 billion. But shutdowns have never led to failure to service the federal government’s debt and therefore have not had a discernable impact on the government’s borrowing costs or creditworthiness.
What is the debt ceiling?
The debt ceiling is a limit on how much money the Treasury can borrow by selling Treasury securities to investors around the world. Here as well, the Constitution has given Congress the power to “borrow Money on the credit of the United States.” So just like any other bill, both the House and Senate must pass a bill to make any changes to the debt ceiling, which the president then must sign for it to take effect. Lawmakers can either raise the debt limit to a specific amount or suspend the limit until a certain date. Whenever the federal government runs a deficit—as it has been under Republican and Democratic presidents every year since 2001—it must borrow to keep meeting its financial obligations.
It is important to note that the debt limit has nothing to do with Congress’s ability to pass laws that authorize spending and appropriate money to do so, and raising the ceiling does not authorize new, future spending. The debt ceiling only controls the Treasury’s ability to borrow to finance the spending decisions already authorized by Congress and signed into law by the president.
According to the Treasury, since 1960, Congress has acted 78 separate times to permanently raise, temporarily extend, or revise the definition of the debt limit – 49 times under Republican presidents and 29 times under Democratic presidents. This includes 20 times in just the last two decades. The ceiling was raised most recently in December 2021, when President Biden signed legislation increasing it to $31.381 trillion. Once that ceiling was reached in January 2023, the Treasury started using various accounting techniques, such as tapping reserve funds, known as “extraordinary measures,” to meet all its financial obligations.
This scrambling and scrounging will work for only so long. When the Treasury exhausts its cash and extraordinary measures by the X date, and if the debt ceiling still hasn’t been raised, the federal government would lose any means to pay its bills and fund its operations beyond its revenues, which would only cover part of the expenses.
Put in that situation, the Treasury could in theory pick and choose which obligations it was going to meet. For example, it could stop paying federal workers, benefits (such as Social Security and Medicare), contracts, or other federal spending in order to service the debt, thereby staving off default for some time. But such “prioritization” of spending within government functions may not be technically or legally feasible, and it would certainly create confusion.
How did we get here? The debt ceiling has its origins in a century-old legislation. Prior to World War I, Congress approved every single issuance of debt. To finance the war effort, the process had to be simplified, so Congress passed the Second Liberty Bond Act of 1917, setting general limits on the different categories of debt the Treasury could incur. In 1931, Congress gave Treasury more flexibility to issue debt, and in 1939, working with President Franklin Delano Roosevelt, it created the first aggregate debt limit covering nearly all government debt. In 1982, Congress changed how it enacted debt limit changes. The debt ceiling was codified in Title 31 (Money and Finance) of the United States Code by Public Law 97-258, which President Ronald Reagan signed into law on September 13, 1982. Before then, the debt limit had been adjusted as amendments to the Second Liberty Bond Act of 1917.
Why holding the debt limit hostage could have serious consequences?
A congressional refusal in 2023 to raise or suspend the debt ceiling is bound to force savage cuts somewhere. Regardless of how the cuts are distributed, confidence would be seriously damaged. And if the cuts fall partly on bondholders, that would constitute the first large-scale default on federal debt in modern US history.
Most experts agree that defaulting on the debt would plunge the US economy into turmoil with consequences rippling around the world. US creditworthiness would be seriously damaged, spurring a panicked selloff of dollar assets, including US Treasury securities, effectively spiking interest rates and likely triggering a financial market crash possibly followed by a global economic downturn, because the United States’ debts underpin the world’s trading and financial systems. The United States would cease to be a safe harbor for the world’s investments. The dollar would lose at least some of its standing as the world’s reserve currency, drastically limiting the ability of the US government to deploy economic sanctions.
Some members of Congress hope that debt ceiling brinkmanship will force the Senate and White House to agree to reduce deficit spending. But the tactics of the advocates of confrontation are the equivalent of someone pointing a gun to his or her head and threatening to pull the trigger to get their way. To be sure, using brinkmanship as a negotiating strategy is not unprecedented. Debt ceiling faceoffs have in the past produced decisions to make fiscal adjustments: The 1995-96 episode resulted in a negotiated budget deal between President Bill Clinton and the Republican Congress. On the other hand, debt ceiling faceoffs have become so contentious that pulling back from the brink is far from assured.
While legislators have always managed to avert default, such confrontations take their toll on US creditworthiness. During the 2011 debt ceiling standoff between House Republicans and President Barack Obama, Standard & Poor’s downgraded the US government’s credit rating for the first time in history (from AAA to AA+), citing the apparent inability of Congress to strike a debt ceiling deal in a timely manner. The credit rating agency specifically pointed to the “political brinkmanship” of the process, asserting that “the effectiveness, stability and predictability of American policymaking and political institutions have weakened.” Moody’s and Fitch, other major credit rating agencies, came close to downgrading US debt.
The 2011 debt ceiling impasse ended on the same day that Treasury estimated its emergency measures would be exhausted. While default was narrowly avoided, the surrounding chaos sparked the most volatile week for financial markets since the 2007-09 financial crisis. When news of the market reaction hit Capitol Hill negotiators, including legislators who had been holding out for budget cuts, quickly agreed to raising the ceiling. The Government Accountability Office estimated that the delay in raising the debt ceiling raised US government borrowing costs by about $1.3 billion in fiscal year 2011. It’s a small sum for an economy of the United States’ size (GDP at $26.13 trillion as of 2022Q4), but the costs could have been exponentially greater had legislators waited longer.
The 2011 crisis led to a last-gasp compromise to raise the debt ceiling while guaranteeing some limited spending cuts. In addition, it established a committee to cut spending and reduce the deficit. But the experience was harrowing, and the Biden administration has refused to enter into budget negotiations tied to the debt ceiling. The administration is adamant about opposing anything that normalizes use of the threat of default as a bargaining chip. If protracted debt ceiling faceoffs become a permanent feature of the US political landscape, the US reputation for reliability and stability—already derided by China and Russia—will be further weakened.
Many fiscal experts (foremost among them, the Congressional Budget Office) agree that current deficit spending is unsustainable over the long run and that raising taxes, cutting spending, or both will likely be necessary in the future as the country seeks to make its long-term debt trajectory sustainable. But tying budgetary negotiations to the threat of default and its ensuing brinkmanship can bring lasting harm to the US—and, by extension, global—economy.
In her January letter to the speaker of the House, Treasury Secretary Yellen clarified that the amount of time that extraordinary measures can buy is subject to great uncertainty. In other words, waiting until the eleventh hour to raise the debt ceiling is playing with fire.
This publication does not include a replication package.