Can the State and Federal Government Borrow Money?

To understand why borrowing is essential, let’s reverse the clock to 2008, the time of the global financial crisis. The federal government borrowed billions of dollars to stabilize the economy. Without this action, the U.S. could have seen a complete collapse in the financial sector, millions of job losses, and a prolonged recession. This shows that borrowing at the federal level isn’t just an option; sometimes, it’s a necessity to maintain economic balance.

But let’s talk about today. With the national debt now exceeding $33 trillion, many people are asking: how much is too much? While the federal government can borrow without facing immediate constraints, states face stricter limits.

Federal Government Borrowing: A Deep Dive

The federal government borrows money primarily through issuing U.S. Treasury bonds, bills, and notes. Investors, both domestic and international, purchase these securities, lending money to the government in exchange for interest payments. Borrowing allows the government to fund operations that exceed tax revenues. These funds can be used for:

• Infrastructure projects
• Social programs
• Military spending
• Stimulus packages during crises

Unlike state governments, the federal government operates under a system that allows it to run budget deficits. In fact, the Constitution grants Congress the power to borrow money, which gives the federal government flexibility. The Federal Reserve also plays a key role by controlling interest rates, which affects the cost of borrowing.

State Government Borrowing: The Tighter Rope

On the state level, borrowing is more complex. Most states are bound by balanced budget requirements, meaning they can’t spend more than they bring in. However, they can issue municipal bonds for specific projects, like building roads, schools, and hospitals. States don’t have the same flexibility as the federal government when it comes to deficit spending. Instead, they must:

• Repay debts through tax revenue
• Avoid overspending to ensure long-term fiscal health

A good example of state borrowing in action is California, which often borrows for large infrastructure projects but must adhere to its balanced budget rule.

So, how does this impact citizens? State borrowing often leads to higher taxes or fees to repay the debt. Federal borrowing, on the other hand, impacts the national debt but doesn’t immediately affect taxpayers in the same direct way.

Borrowing Limits and Debt Ceilings

The federal government faces a borrowing cap, known as the debt ceiling, which is set by Congress. When the debt ceiling is reached, the Treasury can no longer issue new bonds unless Congress votes to raise the limit. This has led to several political showdowns in recent years, with some policymakers advocating for reduced borrowing and others calling for an increase to fund essential services.

States, however, must often go to voters to approve large-scale borrowing. For example, a state may propose a bond referendum to fund new schools or transportation networks, which citizens vote on. This provides a layer of public oversight not seen at the federal level.

The Consequences of Excessive Borrowing

While borrowing can help the government fund critical projects and stimulate the economy during recessions, excessive borrowing can lead to several risks:

1. Increased Interest Payments: As debt grows, so do the interest payments. For the federal government, this can crowd out spending on other vital areas like education and healthcare.

2. Investor Confidence: If investors believe a government is borrowing too much, they might demand higher interest rates on bonds to compensate for the perceived risk. This was the case with countries like Greece during the European debt crisis.

3. Inflation: Borrowing in times of economic growth, especially by the federal government, can lead to inflation if too much money floods the economy.

The Federal Reserve’s Role

The Federal Reserve has a significant influence on borrowing at the federal level through its control of interest rates. By lowering rates, the Fed can make borrowing cheaper, which stimulates the economy. Conversely, when the economy heats up too much, the Fed may raise rates to cool borrowing and prevent inflation.

Table: Federal vs. State Borrowing Differences

Example in Action: COVID-19 Pandemic

During the COVID-19 pandemic, both state and federal governments turned to borrowing to mitigate the effects of the economic downturn. The federal government passed stimulus bills, funded by debt, to provide direct payments to individuals, loans to businesses, and support for healthcare systems. States, meanwhile, borrowed to support local healthcare facilities, purchase PPE, and assist unemployed workers. While the federal government’s borrowing was virtually limitless, states had to carefully balance their needs against budgetary restrictions.

Conclusion: Borrowing Is a Double-Edged Sword

The state and federal governments can indeed borrow money, but the implications, restrictions, and risks are very different. At the federal level, borrowing is essential for maintaining national stability and responding to crises. However, unchecked borrowing can lead to long-term economic challenges. States, on the other hand, have stricter rules, and their borrowing decisions directly impact taxpayers more immediately.

Understanding the complexities of government borrowing is essential for both policymakers and the public. While borrowing can stimulate growth and help in tough times, excessive debt can burden future generations. So, the next time you hear about the government raising the debt ceiling or a state proposing a new bond issue, you’ll have a better grasp of what’s at stake.