What the debt ceiling means to markets
A debate is brewing in Congress about whether to approve President Biden's request to raise the $31.4 trillion debt ceiling, and the issue could be on the front burner as early as July.
This Q&A will offer background on these key points:
The debt ceiling limits the authorization for the U.S. Treasury to make payments.
Historically, Congress has raised the debt ceiling when needed.
Congress is considering proposals to raise the debt ceiling.
How stocks and bonds performed during years of debt ceiling debates
Bloomberg U.S Aggregate Bond Index
Annual return of S&P 500 Index
See highlights of the year
The American Rescue Plan of 2021 provided pandemic relief for households and state and local governments. The CARES Act and other legislation also supported households, businesses, and state governments.
The U.S. added 2.1 million jobs and the unemployment rate finished the year at 3.5%, the lowest level since 1969. The Fed cut interest rates by 25 basis points at its July, September, and October meetings.
The TCJA adjusted tax brackets and rates and doubled the standard deduction. The stock market hit record highs 15 times. Q3 GDP grew at a rate of 3.5%, marking the strongest back-to-back quarters of growth since 2014.
Congress passed the Tax Cuts and Jobs Act in December. The bill simplified the tax code, paving the way for significant tax cuts for individuals and businesses.
U.S. GDP rose for four consecutive quarters. For the first time since 1995, the U.S. produced more oil domestically than it imported
Despite months of contentious debate in Congress, the issue was resolved with passage of the Budget Control Act of 2011, providing for a two-stage increase in the debt ceiling. No government payments were missed.
Frequently asked questions | Debt ceiling
What is the debt ceiling?
The debt ceiling is the statutory limit on the Treasury's ability to issue new federal debt. On January 19, 2023, the nation reached the current limit. The Treasury announced a debt issuance suspension period, which allows it to take “extraordinary measures” to borrow additional funds without breaking the debt ceiling.
In its February budget outlook, the Congressional Budget Office (CBO) reported the Treasury will be at risk of default on paying its bills sometime between July and September. https://www.cbo.gov/publication/58946
What is the status of the current debate on Capitol Hill?
Under Speaker McCarthy's leadership House Republicans want to attach government spending cuts to a deal to raise the debt ceiling. If the House passes a bill that raises the debt ceiling, and includes certain spending cuts, the bill will go to the Senate. The responsibility to avoid a default would pass to the Senate, likely resulting in a negotiation.
As a back-up plan, the House may pass a short-term “clean” debt ceiling increase and push the negotiation around spending cuts beyond the summer. The proposal could include modest cuts in the short-term with the expectation of negotiating deeper cuts later.
Potential areas to cut spending include recapturing unspent Covid-related funding, ending student loan interest deferral and forgiveness, and adding work requirements for individuals to benefit from certain provisions such as the Child Tax Credit, Earned Income Tax Credit, or programs like the Supplemental Nutrition Assistance Program.
Why does the debt ceiling matter to investors?
Without authorization to issue more debt, the Treasury may run short of funds to make payments on behalf of the government. It risks delayed payments or even a default on obligations, including previously issued Treasury securities.
What impact could a U.S. default have?
While a default by the U.S. government would likely have a severe negative impact on many asset classes, it is worth remembering that the United States has a long history of finding compromises and avoiding defaults. According to the Congressional Research Service, the debt limit has been raised or suspended 61 times since 1978.*
In 1979, a debt ceiling resolution was followed by a brief delay in some payments by the Treasury. This caused T-bill interest rates to rise 0.6% (Sources: Politico and Barron's), adding to the cost of the federal government's interest payments.
*Votes on Measures to Adjust the Statutory Debt Limit, 1978 to Present, Congressional Research Service, updated January 6, 2022 (https://crsreports.congress.gov/product/pdf/R/R41814)
Data is historical. Past performance is not a guarantee of future results.