For much of the spring, the U.S. debt ceiling was the hottest topic at the intersection of politics and the economy. House Speaker Kevin McCarthy had a razor-thin margin of error in his caucus. The left urged President Biden to hold his ground in negotiations. Pundits feared that after over a decade of near-misses, Congressional gridlock might plunge the U.S. into default.
Thankfully, leaders on both sides of the aisle came together to work out a compromise. Each party made concessions, but in the end, the status quo mostly prevailed. Congress authorized the U.S. Treasury to continue issuing debt, preserving funding and operations until at least 2025.
Allowing the U.S. Government to keep paying its bills is clearly a good outcome. But if the core issues around the national debt remain, what are the long-term consequences?
Read on for a review of key aspects of the deal, a look back at how markets reacted, and what it means for your financial planning.
How Did Congress Resolve the Debt Ceiling Standoff?
After weeks of theatrics and rhetoric, the final deal came together in a matter of days. Faced with a June 5 deadline from the U.S. Treasury, McCarthy and Biden came to a tentative agreement on May 27. Congress passed the ensuing legislation with bipartisan support and Biden signed the Fiscal Responsibility Act of 2023 into law on June 3.
Aside from suspending the debt limit, the deal contained several key provisions:
Veterans' healthcare budgets remain intact
The government will claw back unused funding for COVID-19 response and research
Annual discretionary spending capped until 2025
Income tax rates didn't increase, but the deal reduces IRS funding
The moratorium on student loan payments ends on September 1, 2023, but there's no impact on Biden's student loan forgiveness plan
How Did Markets React to the Deal?
Despite the drawn-out conflict, most financial experts anticipated a deal. Some considered the ordeal to be a charade. Others believed the idea of crashing the global economy would force all but the most extreme voices to compromise.
With no surprises in the final deal, most people reacted with muted positivity. The stock market rose on June 5, 2023, thanks to the debt ceiling resolution. In the following weeks, it hovered around its year-to-date highs. While markets recovered their losses leading up to the debt ceiling deadline, they haven’t risen much since.
The other short-term impact was on the Fed’s decision on interest rates for June 2023. Experts predicted caps on discretionary spending will lead to very minor economic slowing. This dovetails with the Fed’s strategy to fight inflation. As expected, the Fed left interest rates unchanged but indicated more increases are coming.
What Long-term Effects Do Experts Expect?
Without a doubt, the debt ceiling deal was a positive. A U.S. default is unprecedented and predicting the hypothetical fallout is difficult. But most agree it would have been catastrophic. Additionally, securing a compromise that runs through 2025—after the next election cycle—means Congress won’t be fighting this battle again too soon.
However, experts noted some concerns about the long-term consequences of the deal:
Sovereign credit rating: After the 2011 debt ceiling fight, S&P downgraded U.S. debt from AAA to AA+. Fitch placed the U.S. on negative watch in late May, prompting some to worry a downgrade might be coming.
Market liquidity: The Treasury used much of its cash reserve in the past several months and will need to issue over $1 trillion in T-bills over the next year. As investors move funds in this direction, it could reduce liquidity for other financial markets.
Rising national debt: The Congressional Budget Office projects debt will continue rising in relation to gross domestic product. The debt ceiling deal included modest spending cuts, but the U.S. still faces significant financial decisions in the coming years.
What Does the Debt Ceiling Compromise Mean for Investors?
Headlines about a potential U.S. default and its fallout are hard to ignore. Especially when news outlets give the issue constant coverage on a 24-hour news cycle. It can be tempting to reallocate assets or pull out of stocks when things are uncertain.
Instead of reacting to short-term volatility, focus on your long-term financial plans. For most investors, the debt ceiling deal didn’t have a big impact. It didn’t solve the rising national debt, nor did it address future funding gaps for Social Security and Medicare. But it also didn’t introduce any new crises or market-shifting decisions.
However, it’s a good opportunity to review your financial plans and see if you need to reassess anything. Rebalancing your portfolio is critical to thriving through market fluctuations. And as you age, adjusting risk and return helps you prepare for a secure retirement.
If you’re not sure how your finances stack up in the current economic climate, a Certified Financial Planner (CFP) can help. Unlike many financial advisors, CFPs take a holistic view of your finances. And since they are fiduciaries who don’t work on commission, you can count on recommendations that are best for you, rather than the ones that earn them a kickback. With their guidance, you can stay on the path to your dream retirement.
Want to learn more about structuring a retirement plan to thrive through political turmoil and market volatility? Download our Essential Retirement Guide today.
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