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Debt ceiling: Here’s what you need to know with the looming threat of bankruptcy

Debt ceiling: Here’s what you need to know with the looming threat of bankruptcy

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The clock is ticking to prevent a financial crisis.

United States hit its debt ceiling on Thursdaywhich prompted the Treasury Department to begin taking extraordinary measures to prevent bankruptcy.

While Treasury Secretary Janet Yellen does not expect the US to default on its debt before early June, Congress must get serious about negotiating a solution that is not expected to be easy.

Here’s the situation.

Set by Congress, the debt ceiling is the maximum amount the federal government can borrow to finance obligations that lawmakers and presidents have already approved — because the government runs a budget deficit and the revenue it collects isn’t enough. Increasing the ceiling does not authorize new spending commitments.

The debt ceiling, currently at $31.4 trillion, was created more than a century ago and has been changed more than 100 times since World War II.

Although it was originally intended to make it easier for the federal government to borrow, the cap has become a way for Congress to limit the growth of borrowing — turning it into a political football in recent decades.

Still, fears of default have led lawmakers to pass legislation to raise or suspend the cap every time, latest in December 2021.

The government is unlikely to run out of money and emergency measures before early June, although there is “significant uncertainty” surrounding that forecast, Yellen wrote in a letter to House Speaker Kevin McCarthy last week. It depends in part on how much 2022 tax revenue the government collects this spring.

If the government is no longer able to borrow, it will not have enough money to pay all its bills in full and on time – including interest on the government debt. So it will likely have to temporarily delay payments or default on some of its commitments, potentially affecting welfare payments, veterans’ benefits and federal employee wages, among others.

But no one knows exactly how the Treasury Department will handle the situation, since it has never happened.

A default would also wreak havoc on the US economy and global financial markets, and raise borrowing costs. Even if threat of one in 2011 caused the only downgrade in the nation’s history.

These moves are basically behind-the-scenes accounting maneuvers. Treasury secretaries are authorized by Congress to take several types of emergency measures to prevent a default, giving lawmakers more time to raise or suspend the limit. Secretaries in both Democratic and Republican administrations have taken similar steps.

This time, Yellen plans to sell existing investments and freeze reinvestments of the Civil Service Retirement and Disability Fund and the Postal Service Retiree Health Benefit Fund. It also suspends the reinvestment of the Federal Employees Retirement System’s Treasury Savings Plan fund.

These funds are invested in special issues of government securities, which are counted against the debt limit. Yellen’s actions will reduce the amount of outstanding debt subject to the limit and temporarily provide the agency with additional capacity to continue funding the federal government’s operations.

No pensioners will be affected and the funds will be made whole once the impasse ends.

A recent controversy in Election of the Speaker of the Chamber expressed concern about whether McCarthy would be able to win over hardline Republicans — who see a potential bankruptcy as a way to force the government to cut spending — and negotiate a deal with Democrats who oppose any cuts.
McCarthy told Fox on Sunday that now is a good time to “look at the places where we can change our behavior” because “what we’re going to do is bankrupt this country.”

But last week, the White House said it would not offer any concessions or negotiate to raise the debt ceiling.

Meanwhile, House Republicans are preparing contingency plans that would tell the Treasury Department which payments to prioritize if lawmakers can’t agree to tackle the debt ceiling.

While the two are often confused, a government shutdown occurs when Congress fails to pass a federal funding bill while a debt ceiling crisis will occur if lawmakers do not approve legislation to lift the debt limit.

Congress passed a $1.7 trillion in federal spending last month, avoiding a government shutdown that could have shut down non-essential operations and left many federal employees without pay. The legislation would fund government operations through the end of the fiscal year on Sept. 30.

This story and headline have been updated with additional developments.

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