Debt Ceiling Talks Progressing—What does it mean?
On January 19th of this year, Janet Yellen, the Secretary of the Treasury, announced that the U.S. had reached its maximum debt limit of $31.38 Trillion and as a result, the Treasury was implementing “extraordinary” measures to conserve cash. Extraordinary measures generally include deferring pension investments to conserve cash. She recently indicated that the government would run out of cash by June 5th without a Congressional-White House agreement to raise the debt ceiling. Without an agreement to raise the debt ceiling, the consequence would be very serious, including default on government securities with accompanying negative revisions in credit ratings, inability to meet contractual obligations such as payments to retirees and other contractors as well as the impact on the US’s status as the world’s reserve currency. This threat which, in addition to the risk of recession, might result in a protracted outlook for higher inflation and increase geopolitical risk, has been destabilizing markets.
History of the Debt Ceiling Concept
“A limit on the national debt isn’t a concept that exists in the U.S. Constitution. Congress enacted the original debt ceiling legislation in 1917 to gain the support of reluctant members for entering World War I. Involvement in the war would be more palatable, the thinking went, if there was a limit to the financial commitment.
Beginning around the time of World War II, the debt ceiling legislation required frequent modification to meet the growing obligations of the country, everything from social safety net programs such as welfare to a permanently larger U.S. military and pandemic relief measures. Congress has acted to raise, modify, or temporarily suspend the debt limit 102 times since the end of WW2, nearly once for every year the legislation has been in existence.
For most of its history, adjusting the debt ceiling was a routine matter that neither made the news nor rattled financial markets. In more recent times, the action has been linked to political debate about fiscal prudence and the dangers of a growing national debt. Both Republican and Democrat administrations have contributed to rising debt—through increased spending and revenue-depriving tax cuts—and both legislative majorities have overseen the raising or temporary suspension of the debt ceiling many times.”
Source: “What is the debt ceiling, and does it matter?” 1/20/23 John Hancock Investment Management
Memorial Day Weekend Negotiations
On, May 28th, President Biden and House Speaker Kevin McCarthy announced that a bipartisan agreement on the debt ceiling had been reached. The measure still needs Congressional Approval and could run into procedural obstacles. The deal, if passed, would raise the debt ceiling for two years and limit government spending for two years.
Hemispheres believes that the Agreement, if enacted into law, represents a compromise between both parties, with neither side being fully satisfied. The Agreement would limit spending, but the proposed spending cuts and COVID relief clawbacks, would not materially reduce inflation. Therefore, if the Bill becomes law, very few changes should be noted. Still, passage would avoid a default, eliminate a material source of market volatility, and reduce the probability of a deep recession.
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