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Debt Ceiling: Is the US going to reach a deal or face government shutdown?

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The US government is only 19 days away from running out of money and defaulting on its debt, which is regarded as one of the world’s safest assets.

US Treasury Secretary Janet Yellen confirmed on Tuesday that, come October 18, she will exhaust all of her budgetary tricks to keep the lights on, as Congress remains paralyzed by yet another impasse over raising the debt ceiling.

Washington has been hit yet again by a debt ceiling standoff, which raises the prospect of a default on Treasuries, or US government debt, if Yellen pushes through her extraordinary measures that are currently averting a crisis.

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The fiscal brinkmanship between the opposing Democrats and Republicans threatens to shut down the government this week, followed by a debt default that would shock global financial markets.

What exactly is the debt ceiling?

The debt ceiling is the total limit on how much the United States government can borrow for its funding needs.

America has run large budget deficits in recent years and borrowed heavily during the pandemic, resulting in a growing debt pile.

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The current limit stands at $28.5 trillion. Meanwhile, the Biden administration is attempting to impose even more spending, including a $3.5 trillion package. To prevent the government from running out of money, Congress must approve a deal to suspend or raise the debt ceiling.

What happens if a deadline is not met?

If lawmakers do not reach a deal by the end of Thursday, the government will shut down on Friday. Essential government services, such as national security, would be maintained, but many would be closed, and hundreds of thousands of federal employees would be suspended without pay.

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If Congress and Yellen do not reach an agreement by October 18, the US government would default, which means it will be unable to pay its bills. As a result, it would run out of funds.

In a letter to House Speaker Nancy Pelosi on Tuesday, Yellen cautioned that failure to act may lead to “substantial disruptions to financial markets, as heightened uncertainty can exacerbate volatility and erode investor confidence”.

Randy Kroszner, a former member of the Federal Reserve Board of Governors, said: “If it truly changes people’s perception of the ability and willingness of the US to repay its debt, that will lead to higher interest rates.

“If the Government interest rate moves up, borrowing costs will be higher for everyone.”

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What may be done to avoid a default?

To prevent the crisis from reaching that point, Congress must strike an agreement or implement experimental measures.

Due to Democrats’ slim Senate majority, a suspension or increase in the debt ceiling can be achieved through a process known as budget reconciliation if a political accord cannot be reached. However, this will take time and is not guaranteed to succeed, given that some conservative Democrats are dubious of President Biden’s promises to increase spending.

Some are advocating more outlandish measures to avoid a default, such as the Treasury minting a $1 trillion coin to essentially pay off US debt before it reaches the ceiling. Economists fear that this would set a dangerous precedent that could lead to inflation.

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Why does it always come to this?

The combination of a fixed debt limit and strong divisiveness in Washington means that the United States is always on the verge of another budget crisis.

In the recent decade, the United States has seen many government shutdowns, all of which ended with agreements to avoid default.

the EU have their own fiscal standards that governments try – and frequently fail – to follow, but there is no limit on how much they can borrow.

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Governments can borrow from financial markets to cover their funding needs if investors are willing. America’s fixed debt limit prevents this, and a deepening schism between Democrats and Republicans has made resolution even more difficult.

Image Credit: Getty

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