Jean Ross
A number of factors affect the so-called “x-date,” the date when the Treasury Department will exhaust the various cash and debt management options available to stay under the debt limit. While estimates of the x-date are always subject to some degree of uncertainty, this year’s x-date has been subject to greater uncertainty. A number of factors affect the x-date and make accurate projections challenging, including the fact that the Internal Revenue Service has extended the 2022 tax filing deadline to October for a number of states—most notably California—due to weather related disasters.
On May 1, Treasury Secretary Yellen informed House Speaker Kevin McCarthy (R-CA) that the federal government could reach the x-date as early as June 1. At that point, absent congressional action to raise, suspend, or eliminate the debt ceiling, the nation would default on its legal obligations. On the same day as Yellen’s announcement, the Congressional Budget Office released a statement noting that the projected x-date remained uncertain but that:
… [i]f the debt limit is not raised or suspended before the extraordinary measures are exhausted, the government will ultimately be unable to pay its obligations fully. As a result, the government will have to delay making payments for some activities, default on its debt obligations, or both.
The House Republican leadership has threatened to hold the debt ceiling hostage
House Speaker McCarthy and other leaders of the House Republican majority have threatened the nation with default in order to push for a wide range of radical policies. Some House Republican members have gone so far as to suggest that default would be acceptable and some conservative thought leaders argue that default would be desirable. On a party line vote in March 2023, the House Ways and Means committee advanced a measure that would have the Treasury pay some—but not all—of the nation’s bills using available resources in lieu of raising the limit. However, as a prior Center for American Progress analysis documents, such a measure simply amounts to default by another name.
Default would have catastrophic consequences
Economic experts from across the political spectrum agree that a default on the nation’s obligations would have catastrophic consequences for the United States and around the globe. These consequences would be long lasting—undermining financial markets’ confidence in the stability of the United States—and could include widespread job loss and higher costs for governmental and consumer borrowing due to higher interest rates. Default would result in lasting harm to the economy, as explained below.Moody’s Analytics has projected that a default lasting even a few weeks could cause a recession comparable to that during the global financial crisis, resulting in the loss of nearly 6 million jobs and a stock market fall off of almost one-third, which could wipe out $12 trillion of household wealth. The impact of a default-induced recession would be exacerbated by the fact that the federal government would have limited ability to deploy counter-cyclical policies that are typically used to cushion the impact on households and businesses and jump-start economic activity.A default would undermine consumer and business confidence which, in turn, could reduce the spending that is fundamental to economic growth.
Default would also weaken investor confidence, leading to a reduction in stock prices, reducing the value of families’ retirement and other savings. During the 2011 debt ceiling debate, for example, the S&P 500 lost about 15 percent of its value.A default would almost certainly result in a downgrade in the credit rating for U.S. government securities, which would, in turn, lead to higher interest rates, raising the cost of borrowing. This would reduce economic activity by crimping business investment and increasing the cost of major purchases such as homes and vehicles—as well as the cost of credit card debt—for American families. This would also increase the cost of future federal borrowing. Investor concern over even the possibility of default could result in a downgrade, which would likely result in higher interest costs. In an April 23 statement, for example, FitchRatings noted, “If, ahead of the X-date, we were to assess the risk of a default as having become more material, the US’s rating would likely be placed on Rating Watch Negative and further rating action could be considered. If the limit were not raised or suspended in time to avoid a default, the US’s rating would be moved to ‘RD’ (Restricted Default).
Affected Treasury securities would carry a ‘D’ rating until the default was cured. Prioritising debt payments to avoid an immediate default, if this were possible, might not be consistent with a ‘AAA’ rating.”A default would prevent the federal government from fulfilling its basic functions by delaying payments for benefits and services Americans rely on; payments to businesses for goods and services they sell to the federal government; and tax refunds owed to families and businesses. While individuals and businesses would ultimately receive payments, temporary disruption could impair the ability of federal workers, businesses, and those who rely on federal payments—such as Social Security recipients—to pay their own bills with resulting impacts that would ripple through the economy at-large. A recent Center for American Progress analysis that examines House Republicans’ proposal to prioritize certain payments rather than raise the debt ceiling provides an indication of the magnitude of disruption that would result from default. In none of the months examined were available resources sufficient to pay all of the amounts owed and, in three of the seven months, available funds would have been insufficient to fully cover the costs of interest payments, Social Security, Medicare, veterans’ benefits, and defense spending—and a delay in all of the payments for other federal programs would be required.
A default would destabilize the global financial system, which depends on the stability of the dollar as the world’s safe asset and primary reserve currency. A loss of confidence in the dollar could have far reaching economic and foreign policy ramifications, as other countries, particularly China, would use default to push for their currency to serve as the foundation of global trade. In the short term, loss of confidence in the dollar could disrupt supply chains struggling to recover from pandemic-related bottlenecks and energy prices battered by the impact of Russian aggression in Ukraine. A default-induced downturn in the United States would push other fragile economies into recession, dampening global demand.
Even a close call could increase costs for consumers and the federal budget
As the deadline for increasing the debt limit comes closer, global investors will begin to worry that lawmakers will fail to act. As past experience shows, even a close brush with default could increase the cost of federal borrowing and, with it, the cost of household and business borrowing. The Government Accountability Office (GAO), for example, has estimated that an escalation leading up to the October 2013 deadline for raising the limit increased federal borrowing costs by somewhere between $38 million to more than $70 million. Moody’s Analytics has estimated that investors’ 2013 concerns may have had a much larger cost of nearly a half-billion dollars. A 2019 GAO survey of investors found that 72 percent of those surveyed would avoid purchasing Treasury securities and/or demand higher interest rates if they anticipated a possible delay increasing the limit.
As of late April, Moody’s Analytics identified early warning signs of potential investor concern, with demand for one-month Treasury bills rising and that for three-month bills—bonds whose maturity dates fall in the period when the debt ceiling might be breached—declining. Investment advisers, such as PIMCO and BNY Mellon, have flagged rising concerns regarding the potential for default in advice they provide to investors. A recent analysis by the Council of Economic Advisors (CEA) noted that, as concern over a possible default has risen, the cost of insuring U.S. debt has risen and is now at an all-time high.
Business leaders and economists across the ideological spectrum agree that default would be catastrophic
Agreement on the catastrophic impact of default spans the ideological perspective, with business leaders and economists identifying the risks associated with default:
“Default would be a cataclysm for the global financial system. Treasuries are the foundation of the global financial system because they are perceived to have zero credit risk. Impairing this perception would raise the specter of not getting repaid which, in turn, would be an incentive to dump Treasuries. The massive dumping of Treasuries would engender a global financial meltdown.”Douglas Holtz-Eakin, president, American Action Forum and former chief economist of the Council of Economic Advisors under President George W. Bush in Testimony Before the Senate Committee on Banking, Housing and Urban Affairs Subcommittee on Economic Policy (March 7, 2023)
“The specter of a federal default is an ugly one. Default raises interest rates on the federal debt, thereby worsening the country’s fiscal position. Default also raises the cost of capital throughout the economy by raising the effective floor for all interest rates, including those paid by households. To put it differently, default undercuts confidence in the world’s quintessential ‘safe asset’—the U.S. dollar—by undermining its key role as collateral in all sorts of transactions. As the former central banker Paul Tucker has pointed out, because default poses a risk to the dollar’s position as the world’s reserve currency, it weakens a geopolitical strength of the United States in its rivalry with China. Losing this dominant position would have both modest direct economic costs and, more significantly, negative consequences for the United States’ ability to collect information from and to exclude opponents from international financial networks.”Stan Veuger, senior fellow, American Enterprise Institute (February 21, 2023)
“Brushing up against default would have serious and adverse economic effects. It would lead to reductions in stock prices, reducing the wealth of many taxpayers. It would reduce economic confidence, which in turn could reduce consumer spending. It would increase interest rates, leaving taxpayers on the hook for billions of dollars of interest payments. And it would increase the odds of an accidental default.
On the day before a deal was reached during the 2011 debt ceiling standoff, the S&P 500 was down 6 percent from its high that year. Four days later, credit rating agency Standard & Poor’s downgraded the United States’ credit rating, sending stock prices tumbling further. At its low point during this episode, the S&P 500 lost around 15 percent of its value.
The 2011 debt ceiling standoff sent economic confidence down to levels not seen since the 2008 global financial crisis. This matters because consumers’ outlook for the economy has an effect on consumer spending. When consumers are pessimistic about the economy, they spend less, and since consumer spending is the main driver of the overall economy, consumer pessimism slows overall economic growth.”Michael R. Strain, director of economic policy studies, American Enterprise Institute, in Testimony Before the Senate Committee on Banking, Housing and Urban Affairs Subcommittee on Economic Policy (March 7, 2023)
“Failing to raise the debt limit would be catastrophic. Washington would be forced to immediately balance the budget by eliminating 20 percent of all spending. Even if lawmakers could protect Social Security, Medicare, Medicaid, defense, veterans’ benefits, and interest on the debt (which together comprise 70 percent of the budget), they would have to immediately eliminate two-thirds of all remaining spending from programs such as food stamps, child nutrition, disability benefits, and homeland security. Alternatively, defaulting on the debt itself — by missing interest payments and failing to redeem bonds at maturity — could roil financial markets, destabilize bank balance sheets, and spike interest rates with cascading effects across the economy.”Brian Riedl, senior fellow at the Manhattan Institute, former chief economist for Sen. Rob Portman (R-OH) (February 7, 2023)
“I don’t care who blames who. Even questioning it is the wrong thing to do … That is just a part of the financial structure of the world. This is not something you should be playing games with at all.”Jamie Dimon, chairman and chief executive officer, JPMorgan Chase and Co. as quoted in The Guardian (January 19, 2023)
“The economic consequences of a federal default are unpredictable, but frightening. A swift and severe economic downturn could follow, with unnecessary layoffs across the economy. Chaos in world financial markets is highly likely. Higher borrowing costs for the federal government, and indeed for all Americans, could remain with us for a long time—an unwanted legacy of a foolish decision. We should not run the experiment.”Letter signed by more than 200 economists, including five Nobel Prize winners
Conclusion
The United States has never intentionally defaulted on its obligations, and the impact of default would be catastrophic, with long-term consequences for families, businesses, and the role of the United States in the global economy. Even the threat of default could undermine recent economic progress and, as business leaders and economists agree, is too serious to be used for political brinksmanship. In the words of Federal Reserve Chair Jerome Powell in testimony before the Senate Banking Committee:
Congress really needs to raise the debt ceiling. That’s the only way out, in a timely way that allows us to pay all of our bills when and as do. And if we fail to do so, I think that the consequences are hard to estimate, but they could be extraordinarily adverse and could do long standing harm.
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