Treasury Secretary Janet Yellen recently warned Congress that the United States could default on its debt as early as June 1. As the deadline approaches, Congress’s inability to reach a compromise over raising the debt ceiling threatens to catapult the United States—and the world—into an unprecedented financial catastrophe. A default could trigger a falling dollar and a flight away from U.S. securities, and sound the death knell for the “full faith and credit” that undermines U.S. financial hegemony.
When the debt ceiling was created in 1917, it was meant to give the U.S. Treasury more flexibility to borrow money, not to put a limit on it. In practice, the debt limit allows the government to finance existing commitments made in the past. Put plainly, it allows the government to pay its bills.
This is hardly the first time the government has quibbled over the debt ceiling: It has been raised 78 times since 1960, and the majority of those instances occurred under Republican presidents. In 2011, the United States came as close as it ever has to breaching the ceiling. While it didn’t default, Standard and Poor’s downgraded the United States’ credit rating for the first time in history due to intense political gridlock and government instability.
Since then, the debt ceiling has become not just partisan, but perilous, said Laura Blessing, a senior fellow at the Government Affairs Institute at Georgetown University. “We are in an environment where lawmakers are willing to play some very dangerous brinkmanship games with it from 2011 on out,” she said.
Many Democratic lawmakers are frustrated by what they see as GOP tactics that could imperil the U.S. economy and global standing.
“Getting even to this point sends the wrong signal to our allies and adversaries alike around the world,” said Rep. Brendan Boyle, ranking member of the House Budget Committee. “It shows a level of dysfunction that then hurts our credibility on the global stage. And if we were to actually go over the cliff and default, it would hurt our global standing substantially.”
The United States reached its $31.4 trillion debt ceiling in January, and the Treasury Department has scrambled to keep up payments since then. In the meantime, efforts to reach an agreement and avoid a default have been ineffective despite the looming crisis. The Republican-led House of Representatives has offered to raise the debt ceiling if only the Biden administration will scrap most of its signature programs; House Speaker Kevin McCarthy introduced the Limit, Save, Grow Act, which would suspend the debt limit through March 31 of next year, or until the debt increases by $1.5 trillion. The act would slash several of Biden’s key policies, including student loan forgiveness and the Inflation Reduction Act. The House narrowly passed the bill, but it is essentially dead on arrival in the Democratic-held Senate.
U.S. President Joe Biden is expected to hold more negotiations with congressional leaders this week, but expectations are low regarding the outcome of the summit.
Republicans had no trouble raising the debt ceiling three times under former President Donald Trump. But with Biden in the White House, fiscal priorities have suddenly changed. “They’re trying to hold the debt hostage to get us to agree to some draconian cuts, magnificently difficult and damaging cuts,” Biden said at the White House last Friday.
A McCarthy spokesperson declined to address specific questions, but said the blame for the looming U.S. default lay with Biden and Democratic Senate Majority Leader Chuck Schumer.
“[Biden’s] inaction has brought us dangerously close to bumbling into the first default in our nation’s history,” the spokesperson said. “Now, the burden is on President Biden and Senator Schumer to negotiate.”
While the political contention mirrors that of 2011, this has the potential to be the most dangerous episode to date, Blessing said. Economic uncertainty and a polarized government have set the stage for extreme brinkmanship. Misinformation in the House is also playing a role in dampening the urgency for a fix.
“There are legitimately Republican members who think that we have gone through a default before, because they are conflating and confusing a government shutdown with what would be the first default in our nation’s history, and would be a shocking event that would plunge the U.S. and the global economy into a deep recession,” Boyle said.
A government shutdown occurs when Congress cannot pass, or the president does not sign, legislation funding the operation of government agencies. A debt default means the government is unable to pay its bills on time, and the U.S. Treasury will have to prioritize which bills to pay with the money available to it until Congress revises the limit. Military paychecks, Social Security recipients, and bond holders could all potentially be affected. Defaulting would be considered a worst-case scenario. Even if the debt ceiling is breached for a short period, experts say the damage would be massive.
Moody’s Analytics predicts that a default could quickly result in a drop in real GDP, nearly 1 million lost jobs, and an increase in the unemployment rate to nearly 5 percent from its current level of 3.4 percent. These figures would only worsen the longer the debt ceiling remains breached, with unemployment figures reaching more than 7 million in the case of a prolonged default.
The scale of the spillover effects on the global scale are nearly impossible to measure because nothing like this has ever happened. Because U.S. Treasury securities are considered the ultimate safe asset, the systemic shock of a default would far surpass the financial crisis of 2008, said Joseph Gagnon, a senior fellow at the Peterson Institute for International Economics.
“Just to imagine the worst case scenario, if the U.S. Treasury did default on some or all of its obligations—its Treasury bills and bonds—that would be a global catastrophe that we have never seen,” Gagnon said.
The “full faith and credit” of the U.S. Treasury is a crucial piece of the international financial framework. Since U.S. government debt is gold-plated and as good as money, said Cristian deRitis, the deputy chief economist at Moody’s Analytics, a loss of faith in those contracts would disrupt trade and a host of global financial markets, including plummeting stock prices and downgraded corporate bonds.
“Obviously, U.S. residents would be most directly impacted by the effects and job losses,” deRitis said. “But globally, there would be ripple effects, as foreign bond holders would not be getting paid, and because U.S. Treasury debt is the basis for so many other contracts.”
A default could also have serious national security implications that would cast further doubt on U.S. leadership and reliability among even its closest allies.
“Our economic security is our national security,” said Rep. Andy Kim, a member of the House Foreign Affairs Committee. “It’s such a critical part of where our global strength comes from. Our capacity to be the strongest country in the world is derived not just from guns, bombs, and military equipment—it’s very much based off of our ability to be the strongest economy in the world.”
For lawmakers in other countries that have had doubts about U.S. stability, government efficiency, and the state of its democracy following the Jan. 6, 2021, insurrection, a debt default would only heighten their concerns, Boyle said.
“A first-ever default in American history would be, to them, taken as further evidence that the U.S. is just too unstable,” he said. “And it would call into question, unfortunately, in their minds, whether or not we would be able in the future to meet some of the commitments we made.”
Adversaries, though, would cheer, he said. “There’s no exaggeration to say the best thing we could do for Beijing, and the best thing we could do for Putin, is to default,” he said. “They would love that more than almost anything.”
With whispers of de-dollarization already in the air, a default would be a “self-imposed black eye” to the dollar dominance that the United States has enjoyed as the world’s reserve currency for the past 75 years, said Jonathan Kirshner, professor of political science and international studies at Boston College. A default would make borrowing more expensive and increase the cost of taking out mortgages and other loans for Americans.
“We can definitely observe a desire among actors internationally to live in a world in which there are a more diverse set of options for international money,” Kirshner said. “I think I can say with confidence that the U.S. defaulting on its debt obligations can, but only increase that desire among other actors.”