How a debt default could hit your wallet

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WASHINGTON -- Every country borrows money to help pay for expenditures that exceed available tax receipts on hand. Since World War I, the U.S. Congress has periodically set a limit on how much the federal government can borrow, providing a “ceiling” above which the U.S. Treasury may not offer U.S. debt to investors, typically by the sale of U.S. Treasury bonds.

Congress' job is to decide whether to raise that limit to pay for the ongoing cost of obligations already incurred. Every time the Treasury has neared that limit, the ceiling has been raised -- 78 times since 1960.

From early February until May 19, the debt ceiling was suspended and rose during that period from an authorized $16.4 trillion, set in 2011, to $16.7 trillion. The borrowing authority was at that point exhausted.

Since then, Treasury officials have been using what they call “extraordinary measures” to avoid a default, which they predict could come on or after Oct. 17. That is when massive outlays are scheduled to pay Social Security beneficiaries and an array of other expenses.

Here's a look at the controversy over raising the debt limit, which most describe as far more important than getting the federal government back to work.

Q. Why does the U.S. borrow so much to meet its obligations; why not raise taxes to meet needs?

A. The simple answer is that it can because it is the foundation of the global economy and has a stellar credit record. And there is little popular support for raising taxes despite the fact that tax revenue now pays only 60 percent of the country’s bills.

Q. We’re hearing that the debate about the debt ceiling has roiled the financial markets in the past, and is doing so now. What happened in the past and what’s happening now?

A. In late 2011, the stock market plunged amid such discussions, consumers' confidence level tanked, and the Standard and Poor's bond rating agency downgraded U.S. Treasury debt for the first time in history.

As of midday Wednesday, the Dow Jones Industrial Average had fallen 2.3 percent over five days, although the reasons aren’t exclusively tied to this debate. The Standard and Poor's 500 Index was down 2.45 percent over the same period. But Wall Street watchers predict the U.S. stock market -- as well as those overseas -- would suffer the financial equivalent of a heart attack if the U.S. defaults on its debts by not raising the ceiling.

Q. President Barack Obama has been speaking about why the debt ceiling impasse has become a dire situation. How has he characterized the looming deadline and any alternatives available?

A. During his press conference Tuesday, he said the nation has been using "extraordinary measures to keep paying our bills over the last several months, but at a certain point, those emergency powers run out, and the clock is ticking."

At a certain point, he said, "if the Treasury cannot hold auctions to sell Treasury bills, we do not have enough money coming in to pay all our bills on time. It's very straightforward."

Obama also dismissed any thought of simply ignoring the debt ceiling, as some say the 14th Amendment gives him the power to do. "The damage will have been done even if that were constitutional, because people wouldn't be sure," he said.

Q. People are pointing to a report out Wednesday from Moody’s Investors Service, which rates credit worthiness, suggesting that leaving the debt limit where it is would not necessarily result in a default. What was the basis of that analysis?

A. Moody’s said it believes the U.S. Treasury will make required payments to bond holders whether or not the limit is raised.

“We believe the government would continue to pay interest and principal payments on its debt even in the event that the debt limit is not raised leaving its creditworthiness intact,” Moody’s said. “The debt limit restricts government expenditures to the amount of its incoming revenue; it does not prohibit the government from servicing its debt."

Q. Some Republicans have made the same point and have suggested no harm in testing the debt threshold. What are they saying?

A. Sen. Rand Paul, R-Ky., has suggested breaching the debt ceiling wouldn’t be that bad. “If you don’t raise the debt ceiling, that means you won’t have a balanced budget; it doesn’t mean you wouldn’t pay your bills,” he told CNN on Oct. 2.

In the same interview, he said the U.S. should promise the markets “we will always pay the interest on the debt as a priority … You know how we do that? We bring in $250 billion in tax revenue every month. The debt payment is about $30 billion. We just promise that we’ll always pay it.” Other government activities might not get paid for, he said, but there would be no default.

Q. Could the U.S. Treasury prioritize the debts it owes, paying out interest on bonds and making Social Security and other mandatory spending a lower priority?

A. Technically, yes. But prioritizing spending based on the tax revenue available would reduce

government spending by 32 percent, or $108 billion in the first month, almost automatically spurring a recession, a stock market crash, social unrest, or worse. Treasury Secretary Lew has said it would be “catastrophic."

Q. What is the rest of the world saying about the U.S. debt ceiling crisis?

A. European Central Bank President Mario Draghi has warned that the debt debacle could destabilize the global financial system and send countries into economic peril.

The International Monetary Fund’s financial counselor Jose Vinals told a Washington news conference Wednesday that a default would cause “a worldwide shock” and would have “significant repercussions on financial markets around the world, not just in the United States."

But Obama nemesis Vladimir Putin, Russia's president, on Tuesday told a forum at the Asia-Pacific Economic Cooperation conference in Bali, Indonesia that he understood the president’s decision not to attend the summit. “We are all interested in the U.S. overcoming this crisis,” Putin said.

Q. Some are making the point that raising the debt ceiling does not increase the national debt. Is that accurate?

A. It’s semantics. Raising the authority of the U.S. Treasury to sell bonds does not in itself raise the debt, but once an auction is held and the proceeds spent, the federal government has engaged in additional deficit spending, which means the debt level has increased.

Q. Is there some good that could come from a default?

A. If you took conservative talker Glenn Beck’s advice a while back and bought gold, the likelihood of severe financial chaos could make your holdings more valuable -- if markets are still around to make that determination.

Copyright 2013 Scripps Media, Inc. All rights reserved. This material may not be published, broadcast, rewritten, or redistributed.

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