Should I be Concerned about the Debt Ceiling?
What is the Debt Ceiling?
The debt ceiling is the total amount of money the United States government can borrow to meet its existing obligations, such as Social Security and Medicare benefits, military salaries, interest on the national debt, tax refunds, and other payments.
The concept of a Debt Ceiling was introduced in 1917 after WWI and set at $11.5 billion. Since 1960, the debt ceiling has been raised 78 times.
Today it is $31.4 trillion.
We hit our debt ceiling in January, and now Congress needs to raise it again. When we talk about "raising the debt ceiling," that means giving the Treasury the ability to issue new bonds (debt) to pay for existing obligations.
Is there such a thing as too much debt?
To answer this, we need to first ask, Can we fund our debt?
Being able to fund the U.S. debt boils down to demand. Demand for the U.S. dollar. The United States dollar is seen worldwide as stable and secure enabling it to be the reserve currency of the world. In addition, the interest rates on our Treasuries have been historically higher than in other countries like Japan and China. These characteristics help support a steady demand for the dollar enabling the U.S. to fund its deficits. In an explanation by Warren Buffet to his shareholders in 2020, Buffet highlighted that since the U.S. government owns the printing press to pay the money to the holders of its debt, we have zero probability of not being able to pay our debt. However, this course of action would have serious consequences to our pocketbook, such as inflation and less purchasing power of our dollar.
In light of this, funding our debt is not at stake, what IS at stake is the U.S. defaulting on its loan payments. We have seen this same scenario play out in 1994 and 2011 when different political parties controlled the Congress and the Presidency. We are witnessing a game of political chicken, with each party using the debt ceiling to push their agenda. So what happens if both sides can’t agree?
How serious is not Raising the Debt Ceiling?
In 2013, the Federal Reserve studied what would happen if our political leaders didn't raise the debt ceiling. What they found was not good. There could be a 30% decline in stock prices and a 10% drop in the dollar's value. Not to mention the erosion of household and business confidence. There could be a mild two-quarter recession and an increase in the unemployment rate resulting in a loss of about 2 million jobs.
The consequences will be serious not only for our economy but our society.
How does this affect me as an investor?
We have experienced this before. The news media and politicians create a frenzy that breeds worry. Should the debt ceiling not get raised by June 1st, I recommend you stay away from government bonds issued in June and instead consider investing in CDs or AAA corporate bonds, and if you want exposure to the stock market, dollar cost average as we may see quite a bit of volatility in the coming weeks. Of course every person’s situation is unique and you should consult with your advisor before making any investments.
If you would like a partner to help you figure out which investments are right for you, please contact me for a complimentary “Get to Know You” zoom call here and we can discuss what is top of mind for you and get you closer to your financial goals.
