The Debt Ceiling Crisis: Your Cheat Sheet to What It Means

The Debt Ceiling Crisis: Your Cheat Sheet to What It Means

The government shutdown this week has made headlines this week—and provided fodder for late-night comedy.

After all, it seems shocking and a tad absurd that the government of the world’s largest economy is closed for business.

But behind the sound and the fury, a real, serious debate is happening—and it could affect not only your wallet but wallets the world over.


Get started with a free financial assessment.

Here’s your cheat sheet to what Congress is squabbling over, what a debt ceiling is anyway, and what could happen if this issue isn’t resolved.

What Is This Shutdown Really About?

On the surface, it seems that this fight is about health care—specifically, U.S. President Barack Obama’s signature legislation, the Affordable Care Act, also known as Obamacare. Extreme-right Republicans in the House of Representatives want the president to defund or delay it; insurance exchanges for people without health insurance opened on October 1.

RELATED: Obamacare Exchanges: What You Need to Know

In order to secure their demand, they took a worthy hostage: funding for the U.S. government.

Basically, they are refusing to even give Congress the authority to keep spending money unless Obamacare is put on the back burner. Since the government fiscal year began on October 1, there was no more funding available as of that date. It is illegal for the government to spend taxpayer money without permission from Congress.

The health-care exchanges created by Obamacare opened on October 1 anyway, because the funding for them was previously approved, and so now everyone is turning their attention to the next crisis: the debt ceiling.

What Is a Debt Ceiling?

The crisis over the debt ceiling differs from the shutdown in one key respect. The U.S. government’s debt ceiling is a figure, set by Congress, that limits the amount that the U.S. government can borrow. If the government debt ceiling is not raised, the government will not have the legal authority to borrow money to pay its bills.

RELATED: Growing Government Debt: What You Need to Know

The government regularly spends more money than it raises in taxes and other revenue. It’s been that way for all but four years since 1970. This probably happens because Congress approves spending at a different time than it decides upon the debt limit.

Since World War I, Congress has been passing laws that limit how much debt the government can take on. It has changed the debt limit 77 times since March 1962; now it’s $16.7 trillion.

As recently as Friday, Speaker John Boehner indicated that if the U.S. were to approach a point where it cannot repay its debts, he would allow a vote in the House—which would, in all likelihood, result in a decision to raise the debt ceiling.

What Will Happen If the Debt Ceiling Is Not Raised?

Possibly as early as October 17, the government will run out of the ability to borrow money to pay its bills, says Treasury Secretary Jacob Lew.

If that happens, the worst-case scenario would be that the government would stop repaying debts, or “default” on them. That, in turn, could paralyze credit markets, harm the dollar and force up interest rates, according to a report released by the Treasury Department on Thursday.

RELATED: Can Social Impact Bonds Fix Your State's Budget Crisis?

Altogether, a default could be “catastrophic,” it said, creating a financial crisis even worse than that of 2008.

The threat prompted the head of the International Monetary Fund, Christine Lagarde, to say during a speech on Thursday, "The government shutdown is bad enough, but failure to raise the debt ceiling would be far worse, and could very seriously damage not only the U.S. economy but the entire global economy.”

While it’s impossible to predict how an impasse on the debt ceiling exactly would affect the economy, the country did experience a similar situation in 2011. Under the threat of the first-ever default by that U.S. government, Congress did finally reach an 11th-hour deal. However, the game of chicken played by the two political parties undermined confidence in the U.S. government’s ability to manage its finances. For that reason, for the first time in history, Standard and Poor’s downgraded the U.S.’s credit rating, from AAA to AA+, indicating that it no longer believed American government bonds were one of the world’s safest investments. (Just as a credit score does for individuals, a country’s credit rating indicates its credit worthiness.)

If that happens, it could send a shock reverberating throughout global financial markets—and if you remember what happened to your investment portfolio during that 2008 financial crisis, something similar could occur now if the country were to default. Borrowing would become much more expensive for all Americans, and some analysts project that investors would switch to German and Swiss debt or possibly turn to gold.

RELATED: All That Glitters: Should You Be Buying Gold?

Ways Around the Debt Ceiling Impasse

Although so far, investors are pretty ho-hum about the prospect of a default, House Speaker Boehner seems to recognize how important it is to avoid one. On Thursday, he told colleagues he was determined to prevent one.

However, if he is unable to do so, experts are bandying about a few other options for the President.

First, some advocate that he invoke the 14th amendment, which says, “Validity of the public debt of the United States … shall not be questioned,” and raise the debt limit himself. But on Thursday, White House spokesperson Jay Carney said that it is Congress’s responsibility to raise the debt limit, not the President’s.

Some analysts also believe that the government could prioritize paying certain bills over others—e.g., debts before bills. But deciding upon which ones to pay first could become a logistical nightmare.

RELATED: How Real People Paid Off Debt

For each potential scenario, there is a strong objection or doubt about its effectiveness. Hopefully, Congress will come to an agreement, sparing us from having to resort to these untested workaround solutions.


Financial planning made simple.

Get your free financial assessment.

Related Tags

Get the latest in your inbox.

Subscription failed!

You're Now Subscribed!