U.S. Debt Ceiling

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ASU economist Dennis Hoffman discusses what Arizonans might expect if Congress fails to raise the debt ceiling.

Ted Simons: Good evening and welcome to Horizon. I'm Ted Simons. How will you be affected if the debt ceiling isn't raised? It's a difficult question to answer because of the many unknowns surrounding the issue. But here to help us find some answers is Dennis Hoffman, an economist with the Seidman research institute at ASU's W.P. Carey School of Business. Good to see you again.

Dennis Hoffman: Great to be here, Ted:

Ted Simons: Let's start with defining terms? What is the debt ceiling? Why does it meet to be raised?

Dennis Hoffman: Well, let's back up with respect to debt a little bit. The finance of the federal government's operations taps about 40% of the revenues that the feds get right now is by borrowing more. In other words, to spend exactly what they're planning to spend--not additional expenditures but to pay the bills--they've got to go borrow 40 cents on the dollar. Congressional provision requires the treasury to go back to Congress to -- when they approach a ceiling and the total amount of debt outstanding, the treasury has to go back to Congress and ask permission to exceed the previously existed debt ceiling, and we've done this 74 times--I think--since World War II.

Ted Simons: Indeed. And 10 times in the last decade. It's done almost routinely. Why is -- what's happened? What's changed?

Dennis Hoffman: Well obviously a number of folks in Congress have decided to use this passage of the debt ceiling issue to try to push a particular legislative agenda. That's pure and simple.

Ted Simons: Okay, the immediate impact if this debt ceiling is not raised?

Dennis Hoffman: Well, here's the way you want to think about it. The Federal government sends out about 70 million checks a month. I think it's 27 per second or something like that. And they go everywhere--not just to the employees: they go to defense contractors, they go to the military, they go to Medicare service providers, they go to state and local governments who support a lot of federal initiatives. All of those checks go on, and interest on the debt is a significant amount of these checks as well. So the feds are going to be 40 cents on the dollar short come August 2nd, and that's really where we are. So the real question right now--and we're into the great unknown: who's going to get paid and who isn't, if we go past August 2nd?

Ted Simons: And indeed, all sorts of federal reimbursements are going to get hit. Who decides who gets paid and who doesn't get paid?

Dennis Hoffman: You know, I don't think we know that. Operationally treasury cuts the checks and sends it out. If you and I were planning, one thing I might do is I might make sure I pay the interest on the federal debt; I don't want to default on federal debt, but that may not be due until August 15th or August 20th. What do I do to the people that are supposed to get their money on the 3rd, the 4th, the 5th, the 6th, the 7th? Do I say you don't get your money because we're going to hold it back so we can pay the interest on the debt? We don't know exactly who's going to make that decision. I think treasury needs direction from the executive, or from Congress.

Ted Simons: If the government's credit rating is downgraded, conventional thinking it is drives up interest rates everywhere, business won't expand, people don't spend money, everything's more expensive. Is that what is going -- a lot of folks are saying, that's what's going to happen.

Dennis Hoffman: No, over the long haul that absolutely will happen if debt is downgraded. That's just virtually a certainty. But what we've got to be careful here, Ted, is if debt is downgraded, that's going to be because Congress has failed to act. Congress and the president couldn't agree on a plan, and the debt got downgraded. But all of the uncertainty around this, all of the freezing in the credit markets that's going on--we're already hearing businesses aren't doing anything; they've just -- they're waiting and seeing what's going to happen. They're not hiring anybody; they're not putting capital projects forward. So if there's a seizure in the economy, dare I say "Lehman 2," something similar to the fall of 2008, initially you probably won't see rates go up. Initially you'll see the reaction to this seizure, and everything will -- everything will tighten up, there will be a flight to quality. You could actually see rates go down because you can't anticipate any business activity going forward. It's a great unknown.

Ted Simons: It is, but obviously that would be somewhat temporary, though.

Dennis Hoffman: That would be temporary. There would be a long run real big negative here: hundreds of billions of dollars of higher interest payments over the long haul if our debt rating is down.

Ted Simons: Impact to Arizonans: impact to you, to me, just the folks living here, living our daily lives. What are we going to see and when?

Dennis Hoffman: This is a great question, Ted, because I think some of us sit here in Arizona and say, "Oh, well, this is just a D.C. problem, or this is just the folks on welfare somewhere, but not me." I think that is a very, very short-sighted way of looking at this. So here's some basic statistics. $1.20-1.30, that's what we get back for every dollar we send to Washington. So some of these 70 million checks that the feds send out every month, some of these are headed for Arizona. Who would get them? Certainly a welfare recipient would get them, but an elderly person would get them. It's a Medicare reimbursement, it's a social security check, it's a payment to someone in the military, it's a payment to -- on veteran's benefits. It's a direct defense contractor payment to Boeing, to Raytheon, to General Dynamics.

Ted: It's projects with cities and towns and states.

Dennis Hoffman: It's highway projects. I've heard a lot of people say, that government expenditure we put in place a couple years ago didn't do anything. Ask the folks that are gainfully employed today, Ted, in the construction industry building our roads and building our airports whether or not that's true.

Dennis Hoffman: Other side says, and many Republicans are saying this -- shrugging it off, saying this is the Y2K of Y211: it's not going to be as bad as you think.

Dennis Hoffman: Well I guess they're willing to run the experiment. And some people are saying, "Look, we shut down government in 1995." Big yawn; it wasn't a big deal. Today we're talking about immediately saying, "We're going to cut government spending by 40% virtually overnight." And there's going to be big big uncertainty about who gets paid, and who doesn't get paid. I can understand an argument that we need to reduce government spending over the next couple of decades--that we need to get our fiscal house in order. But what I think what I'm hearing is that some folks are trying to force a balanced budget amendment on the federal government, and I'd like to hear the details around that. What if we had a balanced budget amendment in place in 1941? What then?

Ted Simons: The idea of downgrading credit: Again, I want to get back to that. Even if we do see the debt ceiling raised at the last minute and maybe the credit rating stays the same, or some folks -- some folks are saying that America's prestige, the idea of treasury securities being risk-free forever, and for everyone, that takes a big hit, it's taken a big hit now no matter what happens. Is that valid?

Dennis Hoffman: I think so. I think this is a big missed opportunity moment. I had hopes, and I think there were a lot of folks that had hopes last week when the president and Mr. Boehner had a tentative agreement on about 80% of a deal. A grand bargain they were calling it. And what happened was the president wanted to increase the revenue portion from 800 billion up to 1.2 trillion, and Mr. Boehner thought he couldn't get that through his group. The interesting counter might have been, "OK, you want a few more dollars in revenue? How about all of Simpson bowls? How about 4 trillion in cuts? And we'll add 1.2 trillion in new revenues. Now you're talking north of 5 trillion to address a long-run problem that everybody out there knows needs to be addressed. This could have been a real positive signal to the credit market.

Ted Simons: Real quickly--we only have thirty seconds left--one of the Republican plans is to go ahead and do a short-term raising of the ceiling but address this again in a few months or somewhere down the line that's not too far ahead so we can once -- is that a good idea to once again go through this whole song and dance?

Dennis Hoffman: The economy is seizing up right now. If you talk to corporate America, they're in wait and see, they're not hiring; they're not putting capital in place; they want to see this happen. Why do we want to rerun this tape in six months? So hold the president, hold the spenders accountable through legislation today, but get us two to three years down the road with this. Hold them accountable, but get us down the road.

Ted Simons: Dennis, good to have you here. Thank you for joining us.

Dennis Hoffman: Great to be here, Ted.

Dennis Hoffman: ASU Economist;

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