Wednesday, March 2, 2011

What is the U.S. debt ceiling?

The U.S. debt ceiling  is, as this CNN Money article describes it, "The legal cap on how much the government can borrow".  That's what it means in layman's terms, but where does it come from?  Why does it exist?  How can it be changed?

The phrase "debt ceiling" appears to be a media created term.   Technically it's called the "debt limit" in the U.S. Code of laws.  It can be found in Title 31, Subtitle III, Chapter 31, Subchapter I, subsection 3101, paragraph (b):
The face amount of obligations issued under this chapter and the face amount of obligations whose principal and interest are guaranteed by the United States Government (except guaranteed obligations held by the Secretary of the Treasury) may not be more than $11,315,000,000,000, outstanding at one time, subject to changes periodically made in that amount as provided by law through the congressional budget process described in Rule XLIX of the Rules of the House of Representatives or otherwise.

You'll note that the amount listed in U.S. code doesn't match what the current limit actually is.  Modification of U.S. code hasn't been updated to reflect the last time the debt ceiling was raised.

What's interesting is that even though the united states has been consistently in debt since it's inception, the concept of a debt ceiling didn't come about until 1917 during World War I, but the birth of any overall limit on all public deb didn't come about until World War II.  A paper prepared by the congressional research service gives a brief history.
The statutory limit on federal debt began with the Second Liberty Bond Act of 1917,10 which helped finance the United States’ entry into World War I.11 By allowing the Treasury to issue long-term Liberty Bonds, which were marketed to the public at large, the federal government held down its interest costs.
Before World War I, Congress authorized specific loans, such as the Panama Canal loan, or allowed the Treasury to issue specific types of debt instruments, such as certificates of indebtedness, bills, notes and bonds. In other cases, Congress provided the Treasury with limited discretion to choose debt instruments. With the passage of the Second Liberty Bond Act, Congress enacted aggregate constraints on certificates of indebtedness and on bonds that allowed the Treasury greater ability to respond to changing conditions and more flexibility in financial management. Debt limit legislation in the following two decades also set separate limits for different categories of  debt, such as bills, certificates, and bonds.
In 1939, Congress eliminated separate limits on bonds and on other types of debt, which created the first aggregate limit that covered nearly all public debt.  This measure gave the Treasury freer rein to manage the federal debt as it saw fit. Thus, the Treasury could issue debt instruments with maturities that would reduce interest costs and minimize financial risks stemming from future interest rate changes.16 On the other hand, although the Treasury was delegated greater independence of action, the debt limit on the eve of World War II was much closer to total federal debt than it had been at the end of World War I. For example, the 1919 Victory Liberty Bond Act (P.L. 65-328) raised the maximum allowable federal debt to $43 billion, far above the $25.5 billion in total federal debt at the end of FY1919.   By contrast, the debt limit in 1939 was $45 billion, only about 10% above the $40.4 billion total federal debt of that time.

Since WWII the debt limit has been raised dozens of times.  Whenever it changes, it has to either temporarily or permanently change the section of U.S. Code that defines the debt limit.  In fact, if you scroll to the bottom of the subsection I link to, you'll see a list of how many times the code has been amended.  So what is the point of the debt limit?  Originally it was to have some kind of cap on the U.S. treasury department, but also give it the ability to get the lowest possible interest rates using whichever debt instruments it wanted.

So the debt limit was there just to keep the treasury from borrowing, (and the president from spending), whatever it wanted without any congressional say.  It also freed congress from having to approve every single bond sale.  Until the Budget Control Act, it was the only self-imposed limit on federal spending.
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