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US debt ceiling and its impact on the global economy
Introduction:
The U.S. Treasury has borrowed trillions of dollars over the
past decade, much of it from foreign
investors, to help finance two long wars, rescue its financial
system, and promote economic
growth through fiscal stimulus. The government must be able to
issue new debt as long as it
continued to run a budget deficit--the current shortfall is
about $125 billion per month. As the
national debt approached its statutory limit of $14.29 trillion,
concern mounted over the
consequences of congressional delay or paralysis in extending
the government's ability to
borrow. The United States has never failed to raise its debt
limit, and many economists assert
that failure to do so would plunge the government into default
and precipitate an acute fiscal
crisis. Lawmakers from both parties concede there are dire
consequences associated with a
default, but some Republican members of Congress used the debt
limit as a negotiating chip toextract deeper spending cuts and
long-term fiscal reforms from the White House.
What is the U.S. Federal debt limit?
The debt limit or "ceiling" sets the maximum amount of
outstanding federal debt the U.S.
government can incur by law. This number stood at $14.29
trillion in the spring of 2011.
Increasing the debt limit does not enlarge the nation's
financial commitments, but allows the
government to fund obligations already legislated by Congress.
Hitting the debt ceiling would
hamstring the government's ability to finance its operations,
like providing for the national
defense or funding entitlements such as Medicare or Social
Security. Under normal
circumstances, the government is able to auction off new debt
(typically in the form of U.S.Treasury securities) in order to
finance annual deficits. However, the debt limit places an
absolute cap on this borrowing, requiring congressional approval
for any increase (or decrease)
from this statutory level.
The debt limit was instituted with the Second Liberty Bond Act
of 1917, and Congress has raised
the cap seventy-four times since 1962. Some analysts contend
that by requiring legislative
consent, the debt limit affords Congress some oversight
authority and engenders some
accountability in fiscal policy. Historically, opposition
parties have often used debt-limit
negotiations to draw national attention to protests of existing
policies.
History of US debt Crisis
The following pictures explain the historical data on how the
huge debt is accumulated over the
years and the major contributors. The existing debt has been
increased quickly after the 2008
financial crisis.
http://www.cfr.org/economics/taxes-debt-growth-tradeoff/p23636http://www.cfr.org/economics/taxes-debt-growth-tradeoff/p23636http://www.thinkplaninvest.com/2008/12/what-is-subprime-crisis/http://www.thinkplaninvest.com/2008/12/what-is-subprime-crisis/http://www.thinkplaninvest.com/2008/12/what-is-subprime-crisis/http://www.thinkplaninvest.com/2008/12/what-is-subprime-crisis/http://www.thinkplaninvest.com/2008/12/what-is-subprime-crisis/http://www.cfr.org/economics/taxes-debt-growth-tradeoff/p23636http://www.cfr.org/economics/taxes-debt-growth-tradeoff/p23636
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Implications on the Economy:
Most economists, including those in the White House and from
former administrations, agree
that the impact of a government default would be severe. Federal
Reserve Chairman Ben
Bernanke has labeled a U.S. default a "recovery-ending event"
(WSJ) that would likely spark
another financial crisis. But short of default, officials warn
that legislative delays in raising thedebt ceiling could also
inflict significant harm on the U.S. economy. Congressional
gridlock will
sow significant uncertainty in the bond markets and place upward
pressure on interest rates.
Increase would not only hike future borrowing costs of the
federal government, but would also
raise capital costs for struggling U.S. businesses and
cash-strapped homebuyers. In addition,
rising interest rates would divert future taxpayer money away
from much-needed capital
investments such as infrastructure, education, and
healthcare.
A shrink in demand for U.S. Treasuries would push down the value
of the dollar relative to
foreign currencies. While many U.S. exporters would benefit from
currency depreciation because
it would increase foreign demand for their goods, the same firms
would also bear higher
borrowing costs from rising interest rates.A potential long-term
concern of some U.S. officials is that persistent volatility of the
dollar will
add force to recent calls by the international communityfor an
end to its status as the world's
reserve currency. A 2010 survey performed by the McKinsey Global
Institute found fewer than
20 percent of business executives surveyed expected the dollar
to be the dominantglobal reserve
currencyby 2025.Emerging Market Economies (EME) will be affected
negatively, but relatively compared to the
other parts of the world, emerging markets will do better and
will be considered as safe havens
by investors. Most immediate impact will be the portfolio
impact, especially for a lot of countries
which have a lot of assets in US dollars and US treasuries. With
the US credit rating
downgraded, countries like China, South Korea, Japan, Taipei and
some other Asean countries,and countries that rely on exports will
be impacted. This will be the direct effect. The indirect
effect will be on the real estate sector. The depreciation of
the US dollar will automatically mean
appreciation of the local currencies and that would be bad news
for exports. Also the global
economy is slowing down, especially in US and Europe, which are
the traditional markets for
exports , more so for final goods. This will impact the export
performance of EMEs.
Downgraded credit ratings will increase the cost of borrowing
and will impact the liquidity.
Most experts agree that the potential negative consequences of a
debt-limit debacle (FT) are
much greater and far-reaching than that of a
shutdown--particularly given the risk of a
government default that would jeopardize the full faith and
credit of the United States. Theimpact of a shutdown, while painful
to the workers who are furloughed and the citizens who are
temporarily denied certain government services, is limited to
the symbolic message of political
paralysis it presents to jittery markets.
Amrit Kumar (u111066)
http://blogs.wsj.com/economics/2011/03/01/bernanke-warns-on-debt-limit-chaos/http://blogs.wsj.com/economics/2011/03/01/bernanke-warns-on-debt-limit-chaos/http://blogs.wsj.com/economics/2011/03/01/bernanke-warns-on-debt-limit-chaos/http://blogs.wsj.com/economics/2011/03/01/bernanke-warns-on-debt-limit-chaos/http://www.treasury.gov/connect/blog/Pages/letter.aspxhttp://www.treasury.gov/connect/blog/Pages/letter.aspxhttp://www.reuters.com/article/2010/06/29/us-dollar-reserves-un-idUSTRE65S40620100629http://www.reuters.com/article/2010/06/29/us-dollar-reserves-un-idUSTRE65S40620100629http://www.mckinsey.com/mgi/mginews/dollar_reserve_currency.asphttp://www.mckinsey.com/mgi/mginews/dollar_reserve_currency.asphttp://www.mckinsey.com/mgi/mginews/dollar_reserve_currency.asphttp://www.mckinsey.com/mgi/mginews/dollar_reserve_currency.asphttp://www.ft.com/cms/s/0/2846a0a2-63ae-11e0-bd7f-00144feab49a.html#axzz1JulfUcm9http://www.ft.com/cms/s/0/2846a0a2-63ae-11e0-bd7f-00144feab49a.html#axzz1JulfUcm9http://www.ft.com/cms/s/0/2846a0a2-63ae-11e0-bd7f-00144feab49a.html#axzz1JulfUcm9http://www.ft.com/cms/s/0/2846a0a2-63ae-11e0-bd7f-00144feab49a.html#axzz1JulfUcm9http://www.ft.com/cms/s/0/2846a0a2-63ae-11e0-bd7f-00144feab49a.html#axzz1JulfUcm9http://www.mckinsey.com/mgi/mginews/dollar_reserve_currency.asphttp://www.mckinsey.com/mgi/mginews/dollar_reserve_currency.asphttp://www.reuters.com/article/2010/06/29/us-dollar-reserves-un-idUSTRE65S40620100629http://www.treasury.gov/connect/blog/Pages/letter.aspxhttp://blogs.wsj.com/economics/2011/03/01/bernanke-warns-on-debt-limit-chaos/
