State College and a large part of the United States has been suffering from a major heat wave. Facebook is awash in photos of car dashboards with 100-plus degree temperatures posted. Washington, D.C., is suffering from a heat wave of its own; it may be jumping from the frying pan into the fire.
The problems in Washington arise from the debt ceiling on the United States and its current limit stands at $14 trillion. To continue to fund our spending (Social Security and interest on Treasuries, to name two), the debt ceiling or debt limit needs to be raised. The pundits say the deadline is Aug. 2 – Tuesday.
Why is this an issue and what does it mean to the U.S. and its citizens for now and long term?
Let’s start with what happens if the government does not raise the debt ceiling by the Tuesday deadline, which is actually an indeterminate date. With all the moving parts, the government might not immediately run out of funds on that day. Whatever day it actually happens and our politicians do not agree to a plan to raise funding, there is uncertainty on what will or won’t get paid.
Many proposals agree that if the debt ceiling is not raised, Treasury interest and Social Security payments would be first in line for the money available. However, payments may be difficult to pick and choose from because most payments from the government are automated through computer programs.
The most likely initial outcome is that the United States will lose its top triple-A credit rating. Standard & Poor’s has already threatened this and put us on watch. It’s difficult to determine how this will affect us worldwide because the U.S. has never had its rating lowered before. Typically, when companies or countries receive a downgrade in their credit rating, their costs for borrowing rise. The interest on U.S. debt already is the fifth largest federal budget Item. Having to finance our large deficit with higher interest rates would only add to the current financial problems.
The IMF released a statement on July 25 that U.S. downgrade would be ‘very damaging’ to the global economy. U.S. Treasuries have been the safe haven of choice for our citizens and the world. If we lose our high rating, that will change, which means a harder time finding buyers for our debt.
Higher interest rates will also affect consumers when borrowing. Mortgage rates, car loans and other debts may begin to have their rates go up, thus hurting the U.S. economy further by impeding even more the ability to borrow.
It’s a scary prospect that people are eyeing political risk insurance, which pays out in a government default, on the United States. Typically, this insurance is purchased on developing countries or those close to default, like Greece. In simplest terms, this is a large black eye.
The reality is long-term solutions need to be put in place. There are always two ways to balance a budget, as any household knows: cut expenses or increase income.
The U.S. government raises money through taxes. The government can increase revenue with taxes by decreasing deductions and increasing the tax rate on individuals and/or businesses. There are so many moving parts here; it is hard to tell what the final outcome will be.
The Bush tax cuts, which were extended through the end of 2012, will most likely be allowed to expire if not repealed before the end of next year. This would increase the taxes on the highest taxpayers, increase taxes on capital gains and taxes on dividends. The wealthy, described as the top 1 percent of household income, will face higher taxes. According a New York Times Article written by David Leonhardt, the bottom 50 percent of households, based on pre-tax income, make less combined than the top 1 percent. Thirty years ago, the bottom half made more than twice as much as the top 1 percent.
The old saying that the rich are getting richer is definitely holding true. This means they will face more of the burden of putting America back in the black.
There are many government programs that could face revamping or cuts. Social Security, Medicare and Medicaid seem to top the list. This is due to the aging demographic in the U.S. With the large number of baby boomers heading toward retirement age and benefits, the government retirement benefits are under pressure. I figure by the time I retire, the ‘normal’ retirement age for my Social Security benefits and health care will be 75 years old. It makes planning for retirement quite a difficult and interesting picture if you want to retire at the current ‘normal’ age of 67.
Another idea that would affect the middle class is the proposal to eliminate the mortgage interest deduction for homeowners.
There are many avenues being discussed and proposed, and the only definite thing is something needs to be done. The best quote for the situation came from the same New York Times article, quoting Winston Churchill: ‘In the long run, Americans will always do the right thing – after exploring all other alternatives.’
Let’s hope that still holds true today.
