The Catastrophic Consequences of a U.S. Default on Its Debt
The potential default by the U.S. government on its debt has been a looming threat with far-reaching consequences, both domestically and internationally. A default would have significant impacts on the global economy, which relies on the relative stability of the United States. Interest rates would increase, and investment into Treasury securities would stop, impacting people's car loans, credit cards, and more.[0]
As we navigate the political and economic complexities of raising the debt ceiling in the coming weeks, it's important to understand what could happen if the U.S. defaults on its debt. The consequences of such an event would have a major impact not only in the U.S., but across the globe.[1] And while experts cannot predict the exact outcomes, below are some possible scenarios that could unfold based on economic studies, expert opinions, and historical precedent:
One potential catastrophic economic consequence is millions of federal workers furloughed, Social Security and Medicare payments suspended, a stock market collapse, and an economic recession.[1] Treasury Secretary Janet Yellen warned that a United States default would result in an “unprecedented economic and financial storm” that could trigger an income shock and lead to recession.[2]
During a recent meeting with more than two dozen bank CEOs, Yellen stressed the urgent need for Congress to address the debt ceiling.[3] She described how a failure to raise or suspend the debt limit would be “catastrophic” for the financial system, families, and businesses.[4] Yellen warned of “catastrophe” in a May 11 news conference.[5]
Previous debt ceiling negotiations were also stalled under the Obama administration, marking a new standard of polarized political battles when it came to discussing the government's spending budget.[0] In 2011, House Republicans fought for months to decrease the deficit in exchange for a debt ceiling raise, impacting the country's credit ranking for the first time ever.[0] The discussions reached their conclusion two days prior to the Treasury's announcement that all funds in the United States would have been depleted.[0] The postponement of the vote to increase the debt ceiling had an impact on the stock market and resulted in increased borrowing costs for the U.S., resulting in an extra $1.3 billion expense for the country in 2011, as stated by the United States Government Accountability Office.[0]
What used to be a simple legislative process, the debt ceiling has now become a point of contention for political factions and opposing ideologies.[6] During the 2011 crisis when the U.S. was believed to be on the verge of defaulting, negotiations pushed the time limits to the brink, but a compromise agreement was eventually reached just a few hours before the deadline.[6]
The present limit of U.S. debt is around $31.4 trillion.[7] In January, the limit was exceeded, causing the Treasury Department to utilize “extraordinary measures” to prevent defaulting on its debt.[0] If legislation to increase the debt ceiling is not passed, the United States will once again face the possibility of default.[6] Defaulting on its debt obligations would have severe repercussions for the U.S., leading to a multitude of undesirable outcomes. One of the possible outcomes is the reduction in ratings of Treasury bonds, leading to a decrease in the reliance and faith in U.S. government bonds.[6] As a result, American consumers, corporations, and the government itself would face higher borrowing rates.[6]
Moreover, international investors may choose to dispose of their assets denominated in dollars, leading to a decline in the dollar's value in the foreign currency exchange markets.[6] A default would “crack open the foundations” of the global financial system.[8] “It is very conceivable that we'd see a number of financial markets break — with worldwide panic triggering margin calls, runs, and fire sales,” Yellen cautioned.[9]
Zillow, a real estate website, predicts that mortgage rates may increase by up to 2% by September after the U.S. defaults on its debts, before eventually decreasing.[10] With that, we'd see a massive contraction of the housing market.[5]
A default would likely trigger a downgrade of the U.S. credit rating — the S&P downgraded the nation's credit rating only once before, in 2011, after a last-minute debt ceiling deal was reached. A credit downgrade happens when an international credit rating agency, like Standard & Poor's, determines the country's risk of defaulting on sovereign bonds has increased relative to other peer nations or an average.
In conclusion, the potential default by the U.S. government on its debt would have catastrophic economic consequences both domestically and internationally. It would lead to a loss of confidence in the U.S. government and a global market panic. The most apparent consequence of this situation would be a decrease in asset values and an interruption in global commerce.[1] The length of the panic would depend on how severe the U.S. default is and how fast the U.S. can rebuild trust in the financial markets.
0. “What Happens If a Debt Ceiling Agreement Isn't Reached” TIME, 14 May. 2023, https://time.com/6279707/debt-ceiling-agreement/
1. “What Happens if the US Defaults on its Debt?” Of Dollars And Data, 16 May. 2023, https://ofdollarsanddata.com/what-happens-if-the-us-defaults-on-its-debt
2. “US Treasury Sec. Yellen: US default would result in income shock, could lead to recession” FXStreet, 16 May. 2023, https://www.fxstreet.com/news/us-treasury-sec-yellen-us-default-would-result-in-income-shock-could-lead-to-recession-202305161409
3. “What a federal government default means for higher education” Inside Higher Ed, 19 May. 2023, https://www.insidehighered.com/news/government/2023/05/19/default-likely-negatively-impact-countrys-economy-higher-ed
4. “Yellen warns bank CEOs of ‘severe' economic consequences if debt ceiling isn't addressed” CNN, 18 May. 2023, https://www.cnn.com/2023/05/18/economy/yellen-bank-ceos-debt-ceiling-meeting/index.html
5. “What happens if the US can’t pay its bills? ‘Catastrophe’” WFLA, 20 May. 2023, https://www.wfla.com/news/national/what-happens-if-the-us-cant-pay-its-bills-catastrophe/
6. “[OPINION] Impending US debt default: A looming financial catastrophe?” Aju Business Daily, 18 May. 2023, https://www.ajudaily.com/view/20230518153331818
7. “What to Know About the History of the Debt Ceiling” TIME, 18 May. 2023, https://time.com/6281003/debt-ceiling-history
8. “Debt ceiling: Yellen says default would cause ‘widespread suffering'” Colorado Springs Gazette, 16 May. 2023, https://gazette.com/news/us-world/debt-ceiling-yellen-says-default-would-cause-widespread-suffering/article_2bae6f3b-abba-581f-9922-6b0c4cdcf4c8.html
9. “Yellen warns ‘time is running out' ahead of Biden-McCarthy meet” Brunswick News, 16 May. 2023, https://thebrunswicknews.com/news/world_news/yellen-warns-time-is-running-out-ahead-of-biden-mccarthy-meet/article_b6172692-0147-55d5-a9e8-50ba7cbc122a.html
10. “Could a US debt default unleash global chaos?” BBC, 19 May. 2023, https://www.bbc.com/news/business-65633280
