May 16, 2022 Last Updated 08:13 AM EDT

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Debt Limit Might be Breached in Late Summer, Think Tank Says

Feb 03, 2021 12:03 AM EST

A  rally across the street from the U.S. Treasury.
(Photo : Mike Theiler / Stringer/ GETTY IMAGES) Demonstrators from Jubilee USA Network rally across the street from the U.S. Treasury to call for debt relief for poor nations September 21, 2004 in downtown Washington, DC. The activists are demanding that Group of Seven Nations finance ministers cancel multilateral debt at an upcoming meeting in Washington. (Photo by Mike Theiler/Getty Images)

Has the COVID-19 successfully hit the United States so hard to a point of no return? It appears so, if the data and analysis from a Washington-based think tank will be based upon. 

US Debt Limit to be Breached Soon

According to the think thank, it is highly likely that the federal government will sooner than later run out for borrowing room in either the late summer or the early Autumn of this year if all the depressing trends continue. And before that happens, the Congress must already think of a solution. 

"Congress should immediately begin considering how they will address the debt limit and avoid another flirtation with default," as stated by Shai Akabas, director of economic policy with the Bipartisan Policy Center, according to Market Watch

The debt limit was temporarily suspended in 2019. However, it will already be reinstated Aug. 1.

The Treasury Department, if it adheres to tradition, will likely use several accounting strategies calls "extraordinary measures" to avoid hitting the ceiling immediately. 

Usually, these "extraordinary measures," along with the lumpy nature of federal receipts, in the past provide the said Treasury additional months of leeway or months of breathing room. This is not guaranteed now.  The BPC claimed it is still quite unclear how long the breathing room would last this time, given the relentless pandemic. 

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"Monthly changes in the federal balance sheet are difficult to forecast in normal times. Now - when future spending depends on a COVID-19 relief bill that has not yet been passed and future revenue depends heavily on the strength of the economic recovery - projecting federal finances is especially challenging," the center explained. 

Negative Consequences of Debt Limit Reinstatement in August 

The previous month, Bloomberg already reported dire consequences of the US debt limit being reinstated in August.

Once the country's borrowing limit, has come into effect once again because there exists no Congressional deal that would either extend it or defer it, the Treasury might find its ability to borrow curtailed. 

More alarmingly, the reinstatement of the ceiling can cause the Treasury to slash its cash pile and this can have widespread market impact. What kind of impact and to what extent are still unclear, but it is unlikely to be small.  

Back in January,  the amount of cash that the Treasury currently holds is around $1.73 trillion. For the next months up to August, this amount has to be reduced to the level it was at when the last ceiling suspension took place, which amounts to around $118 billion. This is an unprecedented reduction.

This is a far bigger reduction than that the Treasury historically had to deal with, around debt-limit episodes.

COVID-19 Uncertainty

There might be no solution until the COVID-19 pandemic truly goes away.

The Covid-19 pandemic and the government's response to its economic fallout are after the all, the core of this problem. The Treasury Department, to fund emergency stimulus measures, ramped up its issuance of debt, more so of short-dated Treasury bills. 

Because the Treasury Department needs to reduce its cash pile, it is higly likely that the supply of bills will drop too dangerously quickly, forcing market rates below zero. It might end with the central bank being compelled to intervene.

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