Shutdowns, Debt Ceilings and Defaults: Understanding the Mess We're In

The government shutdown and debt ceiling crisis have dominated countless news cycles, yet most Americans are understandably confused about both. The two are actually separate, yet politically-related issues. However, they are very different in nature. While painful for many, a government shutdown is a much more tepid affair than what would likely happen if the government does not raise the debt ceiling before it runs out of emergency measures to keep paying the bills. Here's a rundown of the situation and how disaster might be avoided.

The shutdown happened because Congress failed to pass appropriations bills that would have funded what are called discretionary spending programs. These programs have to be funded each year through legislation passed by Congress. This is typically done through appropriations in a budget. When Congress cannot agree on such laws, they often pass continuing resolutions (CR), which basically maintain the status quo, funding discretionary spending at the same level as what was passed in the last appropriation bill until some future date. At that point, it might pass a new appropriations bill, or simply float another CR.

Things like Medicare, Medicaid and Social Security are not part of such actions, as they are what is known as mandatory spending. Having mandatory funding means the law that was passed establishing that program or department dictates the money to pay for it. They continue to get funded even during a shutdown, as they would require another act of Congress amending their law.

The current gridlock on the hill has seen the House passing multiple CR’s that include provisions to dismantle the Affordable Care Act. They then send them to the Senate, who strips those provisions out and send it back to the House, where House Speaker John Boehner refuses to allow it to come to the floor for a vote – a vote which enough House Democrats and Republicans have already said they’d vote in favor of, that it’s certain to pass.

Yes, that’s correct. The whole thing would be over if Speaker Boehner simply let a clean bill come to a vote. Boehner is following the unofficial Hastert rule, named for former GOP Speaker Dennis Hastert, who decided that his majority would not let a bill come to the floor for a vote unless a majority of that majority was in favor of it. And we wonder why Washington can’t get anything done.

Without a continuing resolution to authorize funding for discretionary spending, the government goes into shutdown mode. As many Congressmen have noted, it’s more of a slowdown than a shutdown, because in addition to the mandatory spending, the President has broad authorization to determine which functions of government are considered “essential” and keep them running. None of this is good for the upward of a million “non-essential” employees who are furloughed, the economy which experiences constricted spending, or the tax roll revenues which are depressed by both. Still, it’s a manageable crisis that we’ve weathered many times.

The debt ceiling is a completely different story. The United States has always had a way to limit debt, or at least require statutory approval to exceed a certain amount, since 1917. However, raising the debt limit to accommodate previously-authorized spending was pretty much a routine function until 2011, when the first debt ceiling crisis resulted in the downgrading of America's debt for the first time in history, costing the United States billions of dollars in the process.

Failing to reach a long-term solution during the last crisis, the government kicked the can down the road, with the “No Budget, No Pay Act of 2013,” which temporarily suspended the debt ceiling until it was reinstated May 19 of this year. Because the federal government is an almost inconceivably large operation, exactly when the ceiling would become a problem again was not a precise science.

After several re-adjusted estimates, the Treasury Department announced in late September that even extraordinary measures would be exhausted no later than October 17, leaving them with about $30 billion on hand, plus incoming revenue, but no legal ability to borrow. The Congressional Budget Office has estimated that the exact date on which Treasury will have to begin defaulting on some obligations as between October 22 and October 31.

While some members of Congress have suggested that even that wouldn’t be a calamity, economists and market analysts disagree. The truth is, no one really knows exactly what will happen if we default because it’s never happened before in the 237 years of our Republic’s existence – one of the reasons the US dollar is considered the most stable currency in the world. Even if we were to pay some obligations and not others, our bond issues (the way Treasury gets the money to fund that gap between what it takes in and what it is obligated to spend) will not be nearly attractive and the ripples that go out through the world economy would only compound troubles back here.

So if Congress fails to act, what happens? The option getting the most attention is the idea that President Obama could cite the 14th Amendment and say that the government’s legal obligation to spend supersedes the statutory debt ceiling, and issue an executive order to the Treasury to sell more bonds. The legality of that measure is seen by many as questionable, though in a recent Op/Ed in the New York Times, Princeton history professor Sean Wilentz makes a compelling argument that Presidential intervention would not only be legal, but a necessary defense of constitutional principles. Nonetheless, it is still likely to rattle confidence in our treasury offerings, so there’s no question that it’s a lesser option than Congress doing their job and coming up with a long-term solution.

While the markets have remained largely unmoved by the current Mexican standoff, most analysts warn that that’s because Wall Street doesn’t believe Washington is foolish enough to actually breach the debt ceiling, a confidence that seems less valid each day. Credit default swaps on Treasury bonds have doubled in cost over the last two weeks, so investors are already starting to hedge if not flee the dollar. The dicier this thing gets, the more that various alternatives will begin to look attractive, and it doesn’t take that much market movement to ignite a meltdown in this sort of situation.

Republicans are viewed as having painted themselves into a corner, realizing that they don’t have the leverage needed to “win,” while blindly grasping for a Nixonian peace with honor exit strategy that probably doesn’t exist. Democrats argue that by giving in to even a single token demand, they would be implicitly legitimizing the tactic of a minority bloc essentially putting a gun to the head of the global economy and making demands.

No matter how it ends, it’s hard to imagine it ending well. One thing you can bank on is that it will most likely be average, struggling, hard-working Americans who bear the brunt of the damage, while the fat cats on the hill only have to worry whether or not they can survive their next re-election, in order to keep their snouts in the trough.