Guest post contributed by Marty Kerns and Parker Binion of Kerns Capital Management.
Every couple of years, Congress flirts with the threat of not raising the federal “debt ceiling.” The “debt ceiling” is a gold mine for politicians, journalists and analysts. A possible government shutdown, and even more serious default on our debt (treasury bonds), are fun topics for pessimists to discuss. They played this game of brinkmanship in 2011, 2013 and again in 2015. And here we go again.
It’s important to recognize that a government shutdown and a US debt default are not the same. Although it’s theoretically possible for both to happen at the same time, they are two different events.
A government shutdown happens when the President and Congress fail to agree on a budget for future spending, or a “continuing resolution” – which funds government agencies until a budget is passed.
But even without a budget, taxes still get paid and debt payments still get made. The military still operates, as does Border Patrol and air traffic control. “Essential” government employees still go to work and get paid. Checks still get issued for Social Security, Medicare, Medicaid, Food Stamps, and other entitlements. Further, “non-essential” government workers sometimes get paid for the time they didn’t go to work. In other words, a government shutdown is not catastrophic.
Hitting a hard debt ceiling and missing payments to bondholders is, however, a more serious issue because it affects the creditworthiness of the U.S. A loss of credibility, and the spike in borrowing costs that accompanies it, are much more damaging in the long-run than any disagreement on future spending. That’s why it is highly unlikely to happen.
Indeed, the Treasury Department, which receives tax revenue each month in excess of our debt payments, will almost certainly find a way to prioritize payments in favor of debt. For example, the Treasury can delay payments to federal government vendors. Some say delaying payments to vendors is the equivalent of a “default” but they’re just playing word games. If this were true, Illinois would already be in “default” since it has billions of dollars of unpaid bills.
Notwithstanding, we think the debt limit will be raised by late September after a great deal of pontification. Treasury Secretary Steven Mnuchin (a Trump appointee) has asked Congress to pass a clean debt-ceiling increase, with no strings attached, so it should get done.
Once again, reality over rhetoric.