3 things to know about the debt ceiling farce

The most stressful issue in American politics is back, thanks to Republicans taking back control of the House of Representatives in the 2022 midterm elections.

For the next six months or so, you’ll hear about a debt ceiling showdown that could blow up the US economy. This is not a normal phenomenon or a market anomaly that we have no choice but to deal with. It is a man-made construct that once served a purpose but is now a mechanism for abuse of the majority by a radical minority.

Since 1917, Congress has set a limit on the amount of money the federal government is allowed to borrow. Federal spending and the borrowing that funds some of it usually rises over time, so Congress has to increase the borrowing limit every two years. This was happening routinely, without fuss. But over the past 25 years, Republicans have become increasingly hawkish and have used their votes on extending the debt ceiling as leverage for other political demands.

That’s what they plan to do, again, in 2023. The Treasury Department says it will reach its $31.4 trillion borrowing limit on January 19th. If Congress simply votes to extend the borrowing limit, nothing notable will happen. But Republicans who now control the House of Representatives say they will only raise the borrowing limit if Democrats agree to deep spending cuts, which Democrats will not do. So the confrontation continues.

For months, the Treasury Department could use “extraordinary measures” to shift funds and pay the state’s bills, including interest payments on government securities, payments for Social Security and Medicare, and countless other obligations. The real crisis will come sometime near early summer, when the Treasury Department will exhaust those extraordinary measures. At this point, he would only be able to cover the bills using the tax revenue received, which would leave some of it unpaid. Economists believe that even a small default on the US government’s commitments would trigger a financial earthquake.

Here are three key things you need to know about this needless drama.

1. It is nothing but a political stunt. It always has been. always will be. Republicans portray themselves as fiscal hawks who are disgusted with the bloated government and $31 trillion national debt. They will demand spending cuts as a condition for voting on a borrowing cap. And they are not wrong about the overall mismatch between the amount Washington spends and receives through federal revenue, resulting in a deficit of $1.4 trillion in 2022.

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But Republicans are simply not serious about closing the deficit or reducing the national debt. If they were, they would support a powerful Internal Revenue Service that collects all the taxes Americans legally owe and tries to bridge a “tax gap” of up to $1 trillion a year. Instead, Republicans who controlled one or both houses of Congress suffered a decade of underfunding for the IRS, leaving it unable to monitor the complex and potentially fraudulent tax returns of wealthy filers like Donald Trump. Last year, the Democratic-controlled Congress approved an additional $80 billion in funding for the IRS over the next 10 years, to make up for years of funding cuts. One of the House Republicans’ demands now is to eliminate this new funding.

If Republicans really wanted to cut the federal deficit, they would propose spending cuts where most of the money is. But you won’t hear that from them this year. The three largest spending categories are Social Security, Defense, and Medicare, which account for nearly 50% of all federal spending. Republicans usually view defense as a no-go. There is some ambiguity about cutting Social Security and Medicare, but these are popular programs and few Republicans are willing to risk the wrath of voters. What Republicans want cut is Medicaid, which serves mostly those in need, along with much smaller budgets for so-called discretionary programs like transportation, education, housing, and myriad other things. These programs are peanuts, in terms of where you can find real savings if you’re serious about it.

The Democrats, for their part, are playing their own political game with the debt ceiling, which is basically stepping down and letting the Republicans play their recklessness. Democrats could have extended the debt ceiling through the end of 2024 during the weak post-midterm trading session, when they still controlled Congress. They didn’t, perhaps because they believed Republican threats to cut government in 2023 would alienate voters. They may be right about that. Once pointed out, President Biden began calling Republican debt-ceiling denialists “financially insane.” Democratic self-righteousness is part of the usual scenario.

US House Speaker Kevin McCarthy (R-Calif.) speaks to members of the media outside a Republican Steering Committee meeting at the Capitol Building in Washington, US, January 11, 2023. REUTERS/Lea Melis

2. Congress will eventually raise the debt ceiling. It always does, which allows for more borrowing.

3. But the process of getting there can cause real damage. The worst example of this occurred in 2011, when Congress approved an extension of the debt ceiling just hours before the Treasury Department defaulted on some payments. This came after months of controversy similar to what will happen next spring. The approach of default prompted Standard & Poor’s to cut the US credit rating by one notch, for the first time ever.

Inventories started to faint about 10 days before the default date that summer. Then they fell after the downgrade of the Standard & Poor’s index. By mid-August, the S&P 500 had fallen 17% from its peak in July. It took six months for the market to recover those losses.

Republicans are indicating that they may be willing to replay 2011 in 2023, which could cause some market angst until Congress resolves the issue. “Raising the federal debt ceiling later this year will require a bipartisan compromise, likely to include measures to modestly reduce the budget deficit,” Capital Economics advised in a Jan. 17 analysis. “But it is likely that an agreement will not be reached until the last minute, which increases the risk of inadvertently missing the deadline to raise the ceiling.” Why sow calm when you can sow chaos?

Rick Newman is a senior columnist for Yahoo Finance. Follow him on Twitter at @employee

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