WASHINGTON — As the United States continues to careen towards a debt default, the dire predictions coming from the financial sector and the government grows larger on the horizon.
There are different versions of a debt limit default, and the consequences for each could be devastating to every facet of the economy and to any state or region that relies on government industry.
The exact date when the U.S. would default has been debated, but Moody’s Analytics’ Mark Zandi has estimated the date would be June 8. This is in line with what Treasury Secretary Janet Yellen told Congress of an early June debt default.
Technically, the U.S. government hit the debt ceiling in late January but has been using extraordinary measures to continue paying the bills the government has already incurred. However, the debt would exceed the amount of money available in early June and that would be when the U.S. would default.
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“The damage would start to accumulate pretty quickly,” Moody’s chief economist Mark Zandi told NPR. “Within a few days, I think it’d be so significant that, given how weak the economy already is coming into this, we would be in recession.”
There are different scenarios that the government, and economists, have planned for and have laid out what to expect. Below, we’ll go in-depth on the different scenarios and explain what could happen with each of them.
Short Breach Scenario
Moody’s defined a short breach scenario as one in which the U.S. defaults on its debt for a week or less. The White House called this a “brief default” in an explanation of various scenarios that could come up in the coming week.
If a short breach was triggered, the consequences, while not the worst-case scenario, could still be quite dire.
The Federal Reserve simulated a one-month debt default in 2013. In that scenario, the deterioration of financial conditions associated with the default led to an increase in the unemployment rate of 1.25% in the first year after the crisis and 1.7% in the second year. Adjusted for 2023, that would translate to job losses of between 2 and 2.8 million jobs by 2024.
Moodys paints a similar scenario where Real GDP declines by “0.7% point peak to trough,” and “employment declines by 1.5 million jobs, and the unemployment rate rises from 3.4% to a peak of almost 5%.”
The biggest unknown in this scenario would be how credit rating agencies looked at the default. If they didn’t downgrade the U.S. debt, it wouldn’t be quite as difficult of a time, Moody’s reported. However, if the debt was downgraded, it would “set off a cascade of credit implications and downgrades on the debt of many other financial institutions, nonfinancial corporations, municipalities, infrastructure providers, structured finance transactions, and other debt issuers.”
Longer Breach Scenario
A longer breach of the debt ceiling is the worst-case scenario for both the U.S. and the global economy. Moody’s summed it up thusly, “The blow to the economy would be cataclysmic.”
The U.S. government ran a simulated protracted default, and it yielded an immediate, sharp recession as large as the Great Recession in 2008-2009. In a simulated protracted default, the stock market fell 45 percent, retirement accounts were crushed, and consumer and business confidence dropped. Additionally, unemployment would increase by five percentage points to approximately 8.4% in today’s numbers.
Complicating problems for Americans will be the federal government has no money to help with countermeasures as it did during the Great Recession and COVID recession. This would also fall down to the state level, with all levels of government hamstrung in exactly how much they could do as a response.
Moody’s said that if a debt breach was started on June 8 and lasted at least a month, the Treasury Department would “have no choice but to eliminate a cumulative cash deficit of approximately $150 billion by slashing government spending,” and that could have an overwhelming impact on the overall economy as jobs and funding are lost.
Further, Moody’s said a stock market selloff would be likely and that would wipe out upwards of $10 trillion in household wealth. Moody’s analysis also found that a long-term breach would yield a real GDP almost 1% lower, even a decade after the breach.
State/Regional Issues
While most of the focus on a debt default has been at the federal level or on Wall Street, areas that have a heavy reliance on federal government funding would also see a large impact. Moody’s predicted states like Florida and Nevada, which are heavily reliant on tourist and business travel, would experience sharp job losses. Michigan and South Carolina would also see their economies hit as fewer cars would be purchased.
Additionally, beyond the issues of Social Security and military payments, Medicare and Medicaid payments would be disrupted, leaving hospitals and doctors with less financial wiggle room than before. That could lead to major issues in providing health care to Americans, especially lower-income and retirees.
Conclusion
The White House summed up the current threat thusly: “While policymakers have thus far, in the long history of our Nation, avoided inflicting such damage on the American and even global economies, virtually every analysis we have seen finds that default leads to deep, immediate recessionary conditions. Economists may not agree on much, but when it comes to the magnitude of risks invoked by closely approaching or breaching the debt ceiling, we share this deeply troubling consensus.”
Moody’s said, “The longer it takes for financial markets to react, the greater the odds that lawmakers will not act in time, since market turmoil is probably what it will take to generate the political will lawmakers will need to come to terms.”
Time is rapidly running out for both sides to strike a deal. The initial date of June 1 was given as when the government would run out of money. On May 25, the Treasury Department saw its balance sheet drop below $50 billion. When the outlays outpace the deposits and no more borrowing can be done, the first-ever U.S. default would be in place.
Sources: White House, Moody's Analytics, PBS, Treasury Department, Brookings Institution, Council on Foreign Relations, Associated Press, Vox, Fitch Ratings
