The National Debt Ceiling and What That Could Mean for Interest Rates

This past week, Janet Yellen, the United States Secretary of the Treasury, wrote a letter addressing Congress about the state of our national debt. In it, she described how the Treasury would reach the national debt ceiling by October 18th, if Congress didn’t raise the debt limit.

Many of us forget that the US has only been a country for about 245 years. In that time, we’ve developed exponentially, but in comparison to other countries, we’re still quite young. If the debt ceiling is reached on October 18th, it’ll be the first time that the US defaults on its debts. It’s actually never happened before, and no one knows what the impact will be if it does. What I can say is that with the exception of one year, we’ve always had national debt. As a country, the US was in debt the second it created its nation state.

The Importance of the National Debt

When the American Revolution ended, the US was about $80 million in debt. At the time, there was a lot of debate as to whether the country should pay back what it had borrowed or start over with a clean slate. But Alexander Hamilton, a New York delegate to the Constitutional Convention in 1787, and the soon-to-be first secretary of the Treasury of the United States, argued against that.

In his point of view, the US should take on the debt caused by the American Revolution as a way to secure good credit with European allies. France had lent the US millions of dollars worth in loans to help finance the war, but although the money was given freely, it was still a sore diplomatic point. Hamilton’s solution would make it so that the US looked like a trustworthy country that would pay back its debts.

In the end, this was the best thing that could’ve happened, because by taking ownership of the debt, other countries started to trust in the US economy, supporting it through trade, which the US desperately needed since it was in a very vulnerable position, and couldn’t yet sustain itself without outside help.

The One Time We Had No National Debt

There’s only been one time in US history when we had no national debt—and that was during Andrew Jackson’s presidency. According to NPR, Andrew Jackson’s feelings towards debt in general had to do with a personal business deal gone wrong, where he had decided to make an investment and paid the price for his bad business decision by having to shoulder a lot of debt.

Because of his personal experience with debt, when Jackson was elected president, he took one look at the national debt and decided that he was going to get rid of it. In the next two terms, Jackson sold government land at high prices (there was a land bubble forming) to pay off the national debt. He also used his veto power left and right, making sure that there were no extra expenses. In six years, he had managed to get rid of the national debt. In fact, he ended up having a surplus on his hands. He paid out a portion of the surplus to each state, determining their portion based on each state’s population. And that was the end of that.

Or so we all thought.

Just a year after Jackson managed to pay off the country’s entire debt, the land bubble that made it possible to pay off the national debt popped, and the country sank into a six year depression.

The moral of the story is that debt is a financial instrument like any other. And no matter what happens, even if you manage to pay it all off, you’re always going to need more further down the line. There’s just no way to be able to anticipate every outcome.

In finance, you stand in your own way when you assume that all debt solutions are as clean and direct as making one lump sum payment. Debt is always an investment—we wouldn’t go into it if that weren’t the case. And the good thing about good investments, is that they give you the opportunity to make even more.

Congress’s Power of the Purse

As it stands right now, we’re in a bit of a silly situation. While Congress does hold the power of the purse, it's always tasked the Treasury with enforcing and managing the budgets Congress approves. It was actually the reason behind creating the US Treasury in the first place—Congress didn’t want to have to obsess over the details, they only wanted to make broad financial outlines.

The only catch is that the Treasury still needs to ask Congress for permission each time it’s about to spend money on something Congress has asked for. And that gives legislators time to second guess their decisions, or create unnecessary hurdles to maintaining our economy.

Partial Funding Until December

If the debt limit isn’t raised, then investing money in the US won’t be nearly as secure as it once was. Because we’ve always paid our debts (even if we continued to take on more debt), this gave investors at home and abroad complete security that their financial investment was safe.

Thankfully, there's time for the US to avoid defaulting on its debts, and Congress has already funded the government until December. Secretary of the Treasury Janet Yellen has actually called for the complete removal of the national debt limit. The US is the only country in the world that manages debt in such a strict, inflexible way, and to avoid future scares, we should rethink how we handle debt, so that money flows instead of stalls.