Skip to main content
Financial Fundamentals

Understanding the Debt Ceiling Crisis of 2023

β€” Alexandra Ardelean

Hey everyone, Marco here from Whiteboard Finance. I was actually going to buy a tranche of T-bills today, specifically the four-week T-bill. The interest rate is just under 6% at the time of recording this video, and I thought it would be a great investment. However, I realized that there's a lot of uncertainty in the market right now due to the debt ceiling crisis.

So in this video, we're going to talk about what the debt ceiling is, why it's important, and what could potentially happen if it's not raised or suspended. Let's get into it.


What is the Debt Ceiling?

The debt ceiling is a legal limit on the amount of money that the United States government can borrow. It's essentially a cap on how much debt the U.S. can accumulate. The purpose of the debt ceiling is to keep the government fiscally responsible by preventing excessive borrowing and spending.

The debt ceiling was created in 1917 as part of the Second Liberty Bond Act. It was originally intended to give the Treasury more flexibility in issuing bonds during World War I. Since then, Congress has periodically adjusted the debt ceiling to accommodate changes in federal spending and revenue.

The most recent increase in the debt ceiling occurred in December 2021, when Congress passed a temporary suspension of the limit until December 2022. However, due to higher-than-expected spending and lower-than-expected tax revenues, the U.S. reached its debt limit in January 2023.

In response to this situation, Treasury Secretary Janet Yellen warned that the Treasury may run out of cash as soon as June if Congress does not take action to raise or suspend the debt ceiling.


Historical Context

Before we dive into what's happening right now with the debt ceiling, let's take a look at some historical data from FRED (Federal Reserve Economic Data) regarding U.S. public debt leading up to present day.

As you can see from this chart, U.S. public debt has been on an upward trajectory for many years. There have been significant spikes in public debt after events like the dot-com bubble, great financial crisis, and COVID pandemic.

The M2 money supply has also increased significantly over time, especially after events like the great financial crisis and COVID pandemic. This indicates that there is more money in circulation.

Now let's talk about what's happening right now with the debt ceiling.


Political Neutrality

It's important to note that both Republican and Democrat presidents have contributed to raising or suspending the debt ceiling over time. This is not a partisan issue; it's a matter of ensuring that the government can meet its financial obligations and avoid potential economic consequences.


Recent Debt Ceiling Events

Since reaching its debt limit in January 2023, Congress has not yet taken action to raise or suspend the debt ceiling. If no action is taken, there are several potential consequences that could impact financial markets and the broader economy.


Current Situation

As of now, according to J.P. Morgan forecasts, it looks like we're going to exhaust all available resources by June 9th. Bank of America also provides forecasts related to Treasury resources and borrowing needs.

ICAP also provides forecasts related to Treasury resources and borrowing needs.

Barclays also provides forecasts related to Treasury resources and borrowing needs.

So as you can see from these forecasts, it looks like our resources are projected to dip down to around $50 billion between June 5th and June 14th. However, we do have enough breathing room until late July if these forecasts are accurate.


Potential Consequences

If Congress does not act to raise or suspend the debt ceiling before then, several potential consequences could occur:

  • Credit Rating Downgrades: If the U.S. fails to address its debt limit, credit rating agencies such as S&P Global Ratings, Fitch Ratings, and Moody's Investors Service may downgrade their assessments of U.S. creditworthiness. This could signal a higher risk of default to investors and lead to higher borrowing costs for the government.

  • Spending Cuts or Tax Increases: According to Bank of America Global Research, failure to address the debt ceiling could result in automatic spending cuts or tax increases totaling $1.5 trillion for this year alone. These measures would be implemented under a process known as "sequestration" and could affect various government programs and services.

  • Market Volatility: Uncertainty surrounding U.S. fiscal policy could lead to increased volatility in financial markets as investors react to potential disruptions in government operations and funding.

  • Economic Confidence: A prolonged debate over the debt ceiling could erode consumer confidence and business sentiment, potentially dampening economic growth prospects.


Economic Impact Analysis

Let's analyze how failure to address the debt ceiling could affect various aspects of our economy:

  • Consumer Confidence: We've seen consumer confidence drop significantly during past events where there was uncertainty surrounding our country's ability to pay its bills (e.g., S&P downgrade in 2011). This could lead consumers to spend less money on goods and services due to concerns about economic stability.

  • Small Business Optimism: Small business owners may become more cautious about hiring new employees or investing in their businesses if they're uncertain about future economic conditions.

  • Job Market: A prolonged debate over raising or suspending the debt ceiling could lead employers to delay hiring decisions or reduce their workforce due to concerns about potential government spending cuts or tax increases.

  • Federal Borrowing Costs: If U.S. credit ratings are downgraded due to failure to address the debt ceiling, it could lead to higher interest rates on Treasury securities as investors demand higher yields for taking on increased risk.

  • Government Stimulus Options: In case of an economic downturn or recession, hitting the debt limit would constrain our ability for stimulus since we wouldn't be able borrow more money or spend more than what we already have without raising taxes or cutting spending elsewhere (which would be counterproductive).

According to J.P. Morgan projections:

  • A protracted default on our country's obligations could lead us losing eight million jobs by 2024.
  • It would also surge federal borrowing by $750 billion over next decade.
  • It would also cause GDP growth rate drop by 4% per year.
  • It would also cause unemployment rate increase by 2%.

Personal Finance Advice

I'm not telling you what you should do with your money because I'm not a financial advisor nor do I know your personal situation; however I will tell you what I'm doing with my money:

I'm diversifying outside traditional financial markets (stocks/bonds/real estate) into alternative investments such as cryptocurrency (Bitcoin/Ethereum), precious metals (gold/silver), commodities (oil), etc., because I believe that there will be significant volatility ahead due political instability both domestically and abroad which will affect traditional markets negatively but will benefit alternative investments positively.


Conclusion

In conclusion, while it remains uncertain how Congress will address this issue moving forward given current political dynamics within Washington D.C., history has shown us that both parties have always come together when push comes shove so I'm confident that they'll figure something out before things get too out of hand; however it doesn't hurt diversify your portfolio outside traditional markets just case things don't go according plan!