WASHINGTON -- Last year's torturous congressional debate over raising the federal debt ceiling eventually resulted in a deal that President Barack Obama and congressional leaders believed would keep the federal government funded through the 2012 elections. Not so fast.
In what one top congressional aide calls a "nightmare scenario," the federal government could wind up hitting the debt ceiling at the height of the presidential campaign. The Treasury Department is now contemplating the prospect of invoking "extraordinary measures" to keep the government funded through November.
Barring a major economic shock -- a financial meltdown in Europe, for instance -- the emergency measures should be enough to get the federal government past the election. But even under a rosy scenario, the next Congress will be forced to raise the debt ceiling as one of its first orders of business in 2013, if the lame duck outgoing body doesn't do it. And if the Treasury does have to invoke "extraordinary measures" before the election, it's easy to imagine a re-run of last year's political circus, magnified many times over.
Deficit projections have changed repeatedly over the past six months and are likely to change again. Treasury is uncertain whether it would actually need to invoke "extraordinary measures" before the election. The Treasury only deploys them after the government has actually hit the debt limit. Using financial maneuvers, the Treasury can give itself head room under the debt ceiling -- but only for a few months. That's what happened last summer, when the government continued functioning without a deal to increase the debt ceiling until August, even though the country hit the debt limit in May.
The premature return of the debt ceiling is being driven by three major factors: increased spending, slow economic growth and the failure of the congressional Super Committee.
In August, lawmakers agreed to raise the debt ceiling by $2.4 trillion. In the context of a $3.6 trillion budget with a $1 trillion budget deficit, the number seemed adequate, even with weak economic growth. But a full $300 billion of the August hike depended on the Super Committee reaching a deal on long-term spending cuts. The Super Committee reached no agreement, so the debt ceiling was only raised by $2.1 trillion.
Obama's plan to boost the economy with a payroll tax cut has also expanded the deficit in the short term. In December, lawmakers agreed to a package extending the tax cut for two months, along with unemployment benefits and Medicare payments to doctors, at a cost of $33 billion. The deal was entirely funded under government accounting rules. But budgeting rules allow for 10 years worth of revenue or spending cuts to be counted against the cost of an up-front expense -- paying you Tuesday, so to speak, for a hamburger today. Doing it any other way would undermine the stimulative value of the spending or tax cuts, but it puts Treasury in a bind. The two-month extension was paid for with 10 years of modestly increased fees on mortgages guaranteed by Fannie Mae and Freddie Mac. Only 10 months of those fees will actually hit the books by election time -- about $3 billion, leaving an extra $30 billion in borrowing not anticipated by the August debt deal.
But that's only for the two-month deal.
The budgeting dynamics are likely to be similar for a pending package to extend the terms throughout 2012. The cost is expected to be $166 billion. A similar funding plan for the full-year package would require roughly $145 billion in borrowing before November. As a result, the pre-election deficit would be about $175 billion more than lawmakers anticipated in August, bumping up the timing of the debt-ceiling collision by at least a month.
But a more pressing concern for Treasury is the economic underperformance since August. Treasury emphasizes that the terms of the August deal were negotiated by members of Congress, but acknowledges that it provided the information. Among the key facts -- the U.S. could expect to run an average monthly budget deficit of about $125 billion for the next couple of years. That estimate was based on economic assumptions from the White House Office of Management and Budget. The assumptions have proved off the mark.
At the time Congress cut the debt ceiling deal, OMB expected real gross domestic product growth of 2.7 percent and an average interest rate on 10-year Treasury bills of 3 percent for 2011. For 2012, the office expected GDP growth of 3.6 percent and interest rates of 3.6 percent. That resulted in expected tax revenue of $2.2 trillion for 2011 and $2.6 trillion for 2012.
Growth missed the 2011 target, with OMB now expecting final 2011 growth of just 1.6 percent, more than 40 percent below the predictions, according to new data published on Tuesday. OMB has now downgraded its 2012 growth projections from 3.6 percent to just 2 percent, a 44 percent decrease.
Lower growth translates to less tax revenue from income and corporate profit. Lower tax revenue means a bigger deficit, which calls into question whether the debt deal from August will prevent the government from hitting the debt limit before November.
Interest rates, however, have proved significantly more favorable than the administration projected, meaning that the government will pay less to borrow money to fill that hole than it expected. For 2011, the average rate on 10-year Treasury notes was 2.8 percent. OMB now expects average interest rates of 2.3 percent for 2012. Those rates only apply to new debt issued by the government. Prior debt issued under higher interest rates still must be paid back at those previous, higher rates.
Hitting the debt limit before the election could result in political chaos. Both the National Republican Senatorial Committee and the National Republican Campaign Committee -- fundraising entities for congressional Republicans -- rolled out attack ads and a barrage of press releases targeting swing state Democrats during last summer's debacle. And while both groups declined to comment for this article, the Senate team has plenty of ammunition to use against vulnerable Democrats.
In May, the senatorial committee rolled out a web ad hitting Sens. Claire McCaskill (D-Mo.), Sherrod Brown (D-Ohio), Bob Casey (D-Pa.), Jon Tester (D-Mont.) and Bill Nelson (D-Fla.), all of whom are up for reelection this fall.
When Standard & Poor's downgraded U.S. government debt last summer, the rationale was a lack of faith in American politics. "Broadly, the downgrade reflects our view that the effectiveness, stability, and predictability of American policymaking and political institutions have weakened."
That bond market quieted some of the airwave chatter from Republicans, who had held the debt ceiling increase hostage in exchange for deep spending cuts, raising the prospect of a U.S. default, which would have sent global financial markets into a tailspin (President Obama then followed suit by insisting on a "grand bargain" to cut Social Security and Medicare, a demand that was ultimately rejected.)
The National Republican Campaign Committee bombarded the districts of more than 30 House Democrats with press releases, claiming each member had "helped champion a spending spree that resulted in record deficits and debt levels," and were now seeking "another blank check for more spending by supporting a higher borrowing limit without any spending cuts."
Failing to raise the debt ceiling would have forced the government to default on its previous financial commitments.
The campaign committee also ran ads targeting Reps. Brad Miller (D-N.C.) and Kate Marshall (D-Nev.), engaging in a bit of China-baiting by warning of the debt owed to "The Peoples' Republic of China" and flashing the image of a red credit card. China is America's largest foreign creditor, but owns just 8 percent of all U.S. government debt. Most American debt is owned by American investors.
President Obama invoked the S&P downgrade in his recent State of the Union address as a rebuke to Republicans, evidence that Democrats currently see the summer's fiasco as a political liability for the other party. But the National Republican Senatorial Committee has plenty of opposition research ready to deploy in the event of news -- like hitting the debt ceiling again.
In his 2006 Senate run, Pennsylvania's Bob Casey criticized then-Sen. Rick Santorum (R-Pa.) for voting to raise the debt limit, during an appearance on "Meet the Press." That same year, the Democratic Senatorial Campaign Committee ran an ad slamming then-Sen. Mike DeWine (R-Ohio) for doing the same thing, aiding now-Sen. Brown of Ohio, as Politico has reported. In 2007, Missouri's McCaskill voted against raising the debt limit, and Republicans have plenty of quotes about the debt ceiling from Florida's Nelson from this 2004 speech.
Treasury will have a better idea about its 2012 finances after April, when tax returns are due. Most workers pay taxes out of regular paychecks, providing a steady stream of revenue to the government. But others who are not traditional employees of a company pay once a year in April, and the total revenue from that one-time haul can be difficult for the government to predict.
But even if all goes as congressional Democrats believed it would last summer, the new congressional class of 2013 can look forward to a debt ceiling battle as one of their first orders of business. And the stakes in January of next year will be just as high as those from last summer.