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Debt Limits, Ceilings & Defaults
I can’t believe I have to write about the debt ceiling again.
It should go without saying that elected officials’ number one job is… you know… ensuring the government doesn’t run out of money. But here we are. Again.
Brief History of the The Debt Limit
People love saying that the United States has never defaulted on its debt (not true, but more on that later). However, the United States was basically founded in default!
When the U.S. Constitution was passed in 1787, there was an air of excitement and endless possibilities in America. However, one man was quickly jolted back to reality: Alexander Hamilton. When he assumed the role of first Treasury Secretary in 1789, things weren’t great:
“Before 1790, the government was effectively bankrupt. Without tax revenues until late in 1789… the U.S. government was in default on almost all of its large domestic debts… as well as on most of its foreign debts…” (Sylla, 2010)
In October 1789, Hamilton even had to sheepishly ask the French government if America could delay paying them back for a few years:
“I venture to say to you, as my friend, that if the installments of the Principal of the debt could be suspended for a few years, it would be a valuable accommodation to the United States… Could an arrangement of this sort meet the approbation of your Government, it would be best on every account that the offer should come unsolicited as a fresh mark of good will.” [Letter from Alexander Hamilton to Lafayette]
In other words, Hamilton wrote Lafayette asking:
On March 29, 1790, Secretary Hamilton had to inform President Washington that some congressional paychecks were about to bounce:
“That, in order to be able to furnish in the course of the ensuing month for the compensation of the members of Congress, & the Officers and Servants of the two houses, a sum of about sixty thousand dollars; for the payment of the Salaries of the Civil List to the end of the present month a sum of about forty thousand dollars; for the use of the Department of War a sum of about fifty thousand dollars; and for procuring bills to pay an arrear of interest on the Dutch Loans to the first of June next, a sum of about thirty five thousand Dollars: amounting together to about one hundred and eighty five Thousand dollars, it will be requisite to obtain a Loan of one hundred thousand dollars, There being in the Treasury now a sum not exceeding fifty thousand dollars…”
The chart below visualizes the dire situation Hamilton communicated to President Washington:
So, from inception, the U.S. government faced an all too familiar issue: too few monies, too many expenses. Also like today, President Washington had to go seek congressional authorization for a new loan to meet government obligations.
This brings us to our topic du jour: The Debt Ceiling.
What is the debt ceiling (limit), exactly?
“The debt ceiling is the legal cap that Congress sets on the amount that the Treasury can borrow. It does not authorize any new spending; it simply lets the government pay for what Congress has approved. The debt ceiling came into being in 1917; before then, Congress tended to authorize borrowing for specific purposes. But when raising money to support America’s entry into the first world war, Congress granted the Treasury more flexibility, eventually setting a comprehensive debt ceiling in 1935.” (The Economist)
Interestingly, before the 1917 shift in policy, Congress authorized the Treasury to issue securities for specific uses like war financing or infrastructure projects. For example, here is the communication President Washington sent Secretary Hamilton regarding the $100,000 loan:
“The Secretary of the Treasury is hereby authorised to negotiate and agree for a Loan to the United States to an amount not exceeding one hundred thousand Dollars, bearing an Interest not exceeding six ⅌. Cent ⅌ annum to be applied towards carrying into effect the appropriation made by the Act Entitled, ‘An Act making appropriations for the support of Government for the year one thousand seven hundred & ninety.’ and according to the annexed representation.”
Washington references the specific Act authorizing Hamilton’s loan.
Between 1776-1920 Congress authorized some 200 of these securities, ranging between 0-8 new securities annually. Importantly, there were “debt limits” for each security being issued. For example, Congress might authorize Treasury to issue $200M of ‘War Bond A’, and $100M of ‘Panama Canal Bond C’.
However, this changed with the onset of World War I, and the introduction of Liberty Loans.
“World War I was a conflict with unknowable costs, making targeted legislation difficult. At first Congress established a $5 billion limit on new issues of bonds, along with the immediate issuance of $2 billion in one-year certificates of indebtedness, in the First Liberty Loan Act of 1917.
But very quickly another law was needed — the Second Liberty Bond Act of 1917 — in which Congress set a general limit on borrowing: $9.5 billion in Treasury bonds and $4 billion in one-year certificates. This freed the Treasury secretary to begin to figure out the best mix of securities to issue, without nearly as much congressional oversight as before.” (Washington Post)
Eventually, in 1939, Congress ditched the limits on individual debt securities, and placed an overall aggregate limit on the national debt. So it was in 1939 that the debt limit (ceiling) we know today, was born.
Now, let’s get some more historical context on sovereign debt defaults, debt limits and more!
Sovereign Debt Default Since the 13th Century
Why This is Relevant:
Visualizing History: