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WSJ: What Is the Debt Ceiling and How Does It Work?

The U.S. risks failure to pay its debts if Congress doesn’t pass new legislation

House Republicans passed a bill proposing to raise the nation’s $31.4 trillion borrowing limit in exchange for deep cuts in government spending. But with President Biden’s reluctance to make cuts, the bill faces an uncertain future. Congress must raise the debt ceiling before the government runs out of money to pay its bills, which could happen as soon as June 1, Treasury Secretary Janet Yellen announced.

Approaching the ceiling can have consequences. S&P reduced the U.S.’s credit rating when Congress came close to not extending the limit in 2011. This downgrade increased the Treasury’s borrowing cost by about $1.3 billion in the fiscal year, according to the Government Accountability Office.

Here is how the debt ceiling works.

The U.S. routinely spends more money than it collects in revenue.

These shortfalls are called deficits.

To cover these deficits the Treasury Department borrows money by issuing new debt in the form of government securities.

This debt is like a loan: Investors trade cash for a promise that the government will pay them back with interest.

That loan is added to the total national debt.

Congress has imposed a limit on the amount that the Treasury can borrow, known as the debt ceiling.

When lawmakers authorize new spending, the ceiling isn’t automatically increased.

Raising the debt limit doesn’t authorize new spending, but it allows the Treasury to issue new debt to cover spending that Congress has already authorized.

Once the debt ceiling is reached, new debt cannot be issued until lawmakers vote to raise or suspend the borrowing limit.

While the Treasury has some cash reserves, those will eventually run out, making it unable to pay the government’s bills on time.

If the government runs out of cash, it could begin to miss payments on its existing obligations, such as monthly payments to federal employees.

Some Republicans suggested that the Treasury Department should give priority to paying holders of federal debt over other obligations if the ceiling isn’t raised in time. That has never been tried, as Treasury secretaries from both parties have warned against such a step. 

The debt ceiling came out of the need to accrue more debt during the world wars, before which Congress had to approve borrowing specifically for each purpose. Despite partisan disagreements, Congress and the president have never officially allowed the U.S. to default on its debt. The debt ceiling has been modified 102 times since World War II, according to the Congressional Research Service.