US DEBT CEILING CAP LIKELY TO BE INCREASED AS CONSENSUS BUILT UP

On Wednesday, the house passed a bill to suspend the U.S. debt ceiling as the country barrels toward a first-ever default with no clear solution in sight. Republicans will sink the plan in the Senate. The GOP has opposed any effort to raise the borrowing limit and appears intent on making Democrats address it as part of their sprawling investment in social programs and climate policy.

America’s debt ceiling is remarkably dangerous. If Republicans in Congress don’t agree to raise or suspend the cap on federal borrowing to cover already committed cost , the fallout will hurt real people right away as the government cuts its outlays by perhaps two-fifths. Even a brief delay on debt payments risks a market crash. To avoid a catastrophic longer standoff, Democrats have radical options like minting $1 trillion coins.

The U.S. borrowing limit, suspended since 2019, kicked back in again last month at around $28.4 trillion. For lawmakers, it represents a second bite at spending measures that have already passed. In a rational world, agreement on how much to spend would be accompanied by automatic increases in how much borrowing is allowed. Washington is not that world. In the past, bipartisan support has eventually ended impasses over the debt ceiling. With some Republicans increasingly willing to break norms. Common sense may not be enough this time. An extreme threat in the background could therefore help.

If the current cap is left in place, Treasury Secretary Janet Yellen says the government will start running out of cash on Oct. 18. If the deadlock continues for a while, things will get nasty quickly. Unable to borrow more, the Treasury would have to cut some 40% of federal spending by mid-November, according to a recent Bipartisan Policy Center analysis. Yellen’s department might try to prioritize outlays like interest on debt. That could spare the United States a default, but would force other cuts, possibly in areas like Social Security or military pay. Meanwhile, paying some expenses but not others would invite legal challenges, potentially adding extra chaos to the hardship of people whose badly needed government checks would suddenly stop arriving. Over a full year, the forgone spending would amount to more than 10% of GDP, a devastating economic blow.

If debt payments were missed, even briefly, the financial market consequences could be dramatic. In the past, such episodes have triggered spikes in bond yields that have rattled markets and cost the government billions of dollars, including a 1979 example cited by Moody’s when the U.S. Treasury failed to make payments on some bills by mistake. Market participants would expect lawmakers to act after receiving such warnings. There’s an analogy with 2008 when Congress initially failed to pass the so-called Troubled Asset Relief Program, then-Treasury Secretary Hank Paulson’s proposed response to the intensifying financial crisis. Among other asset price turbulence, major stock indexes fell nearly 10%. That might have been just the beginning had politicians not passed slightly amended measures within days.

If market gyrations didn’t drum up enough support for raising the debt ceiling, all bets would be off. The U.S. government has never defaulted and its bonds are the safe-haven benchmark for the world. The United States not meeting its debt and interest payment obligations would torpedo that reputation and send bond yields soaring – and probably burden future generations of Americans with far higher borrowing costs, too. That would exacerbate what would already be an economic tragedy at home. This should never happen, and with luck won’t. If it did, it would be down to a technical matter, the statutory debt ceiling, rather than a fundamental inability to pay. That raises the question of whether there are similarly technical ways to counter the risk. For example, the Democrats could use a parliamentary maneuver to temporarily lift the debt ceiling without requiring Republican votes. But that’s a short-term fix and the problem would recur later. There are more controversial alternatives.

In the past the Federal Reserve has assessed options, for example buying defaulted bonds as if they were still good. But those are mitigating measures, not cures, and could damage the institution in the long term . Jerome Powell, now Fed chair, called those options “loathsome” at the time. Meanwhile, some economists view central banks’ ongoing bond buying as functionally similar to canceling debt. Forgiving some of the more than $5 trillion of Treasury securities the Fed has on its books would make a lot of room for further borrowing. Even if that could be done legally, it would be a course fraught with risk to the central bank’s credibility and to the structure of its balance sheet.

There are a couple of other off-the-wall ideas. One is a twist on bond math. Ten-year Treasuries currently yield around 1.5% annually. It’s the face value that counts toward the debt ceiling limit, so in theory the United States could issue bonds that pay far more in yield and would therefore sell in the market for multiples of their face value, giving the government extra proceeds within the borrowing cap. Another is rooted in the untested belief that any Treasury secretary can issue certain types of coinage without limit. Hence the notion of minting $1 trillion platinum coin. The Fed, the theory goes, could essentially print money against deposits of such coins.

Such radical steps would themselves attract legal trouble and perhaps undermine the credibility of the U.S. financial system, even as they addressed the immediate problem by providing cash to the government. Yet if the Democrats want to persuade Republicans to play by the normal rules, having a few bombs of their own available to throw might not be a bad thing.