Market Note (Special Edition) – January 20, 2023

By Hightower Great Lakes on January 20, 2023

What is the Debt Ceiling?

The debt ceiling is the maximum amount the United States government is authorized to borrow to meet its existing legal obligations, including Social Security and Medicare benefits, military salaries, interest on national debt, tax refunds and other payments.¹

Lawmakers must raise or suspend the ceiling before the Treasury Department can issue more debt. The debt ceiling does not authorize new spending, but rather, allows the Treasury to pay for expenses the government has already authorized.

The worst-case scenario in which the debt ceiling is not raised would cause the government to default on its legal obligations – which is unprecedented in American history – and cause various other negative contagions across the economy.

While the worst-case scenario is dire, Congress has always raised the debt ceiling when called upon and has acted 78 separate times since 1960 to extend or revise the definition of the debt limit; we view the chance that the debt ceiling is not raised as extremely unlikely.

Implications of Default

If the debt ceiling is not raised, the government would not be able to borrow to pay bills; it would have to suspend pension payments, withhold or cut the pay of soldiers and federal workers, and/or delay interest payments which would constitute a default.

A default would, at the very least, rattle investor confidence in the security of U.S. Treasuries, which would likely cause a massive selloff in those securities and create an extremely volatile market.

Rating agencies would also cut the U.S. credit ratings multiple notches; for example, S&P cut the U.S. credit rating from AAA after it came within days of breaching obligations, so an actual default would cause multi-notch downgrades.

The US has defaulted on its debt just once before, in 1979; this was a technical bookkeeping glitch that resulted in delayed bond payments but was quickly rectified. The U.S. has never intentionally defaulted on its debt.

Likelihood of Default

The most recent debt-ceiling debate was resolved in 2021 when a deal allowed the ceiling to be raised with a simple majority vote in the Senate instead of the typical 60 votes required.

The situation is more complicated this time around as the Democrats do not control both houses, and the more outspoken Republicans in the House have spurned political norms (see Kevin McCarthy 15x vote for Speaker of the House).

The Treasury has some temporary options to pay bills; it can use cash on hand, spend incoming revenues (i.e., tax revenues), or use some “extraordinary measures.” These measures include a redemption or suspension of investments in certain federal retirement and disability funds, which would be made whole at a later date.²

Another scenario for staving off a default would be one California encountered around 10 years ago. The state issued IOU’s in lieu of payments for a stretch of time and all debts were eventually repaid. As unlikely a scenario as it is, if the debt ceiling is not raised in time, we do not think the U.S. Government will stop paying Treasury debt first.

At the end of the day, we view the chance of a default as minuscule, but understand the far-reaching implications should it not be raised. This is a chance for some outspoken members of Congress to make their views heard about concerns related to the level of debt.

At the end of the day, it would be politically detrimental to allow the U.S. Government to default, therefore, in no one’s best interest.

Click here to read last week’s Market Note (1/18).

Disclosures

OCIO is a group of investment professionals registered with Hightower Securities, LLC, member FINRA and SIPC, and with Hightower Advisors, LLC, a registered investment advisor with the SEC. Securities are offered through Hightower Securities, LLC; advisory services are offered through Hightower Advisors, LLC.

This is not an offer to buy or sell securities. No investment process is free of risk, and there is no guarantee that the investment process or the investment opportunities referenced herein will be profitable. Past performance is not indicative of current or future performance and is not a guarantee. The investment opportunities referenced herein may not be suitable for all investors.

All data and information reference herein are from sources believed to be reliable. Any opinions, news, research, analyses, prices, or other information contained in this research is provided as general market commentary, it does not constitute investment advice. OCIO and Hightower shall not in any way be liable for claims, and make no expressed or implied representations or warranties as to the accuracy or completeness of the data and other information, or for statements or errors contained in or omissions from the obtained data and information referenced herein. The data and information are provided as of the date referenced. Such data and information are subject to change without notice.

This document was created for informational purposes only; the opinions expressed are solely those of OCIO and do not represent those of Hightower Advisors, LLC, or any of its affiliates.

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¹ Source: U.S. Treasury Department. As of January 19, 2023.

² Source: CNBC. As of January 19, 2023.