How the US debt ceiling could hit your finances
Washington may reach a deal to raise the debt ceiling by Aug. 2, the date after which Treasury Secretary Timothy Geithner says the US will no longer be able to meet its debt obligations through accounting tricks.
But what happens if the $14.3 trillion debt ceiling, which places a legal cap on the amount the country can borrow — and which the U.S. actually hit on May 16 — isn’t raised?
“Frankly, no one knows,” says Matt Slaughter, a professor at Dartmouth's Tuck School of Business. “There’s no historical precedent for what happens if the US defaults on part of its outstanding debt obligations.”
But it’s clear the outcome won’t be good, Slaughter says.
Federal Reserve chair Ben Bernanke says the result would be a “huge financial calamity.” And economists predict serious global implications, as the security of US Treasuries, considered by most investors to be the closest thing to a risk-free investment, comes into question. Already, ratings agencies are indicating they could downgrade the AAA credit rating of the U.S.
Here’s how it would affect you:
“By dint of what comes in on a day-to-day basis, the government can keep paying about 60 percent of its bills, and will fail to pay the other 40 percent,” says Alan Blinder, a Princeton professor and former vice chairman of the Fed.
If you’re relying on a government check — a benefit check or a paycheck — you may or may not get it after Aug. 2. (The government is scheduled to deliver a round of Social Security checks on Aug. 3.)
Some lawmakers are trying to figure out who’s first in line. A trio of Republican lawmakers introduced a bill on Wednesday that would have the government prioritize military salaries and debt payments. Not on their list? Social Security and unemployment.
Interest rates are extremely likely to rise. That means higher rates for credit cards, home mortgages, auto loans, and student loans, among others. How much they go up depends on how panicked the market gets.
“Even if it doesn’t turn out to be calamitous, almost surely it’s going to raise Treasury interest rates,” Slaughter says.
That would bring the borrowing capacity of families down, and could seriously slow down business investment — which means less hiring.
The worst-case scenario? “If the markets really go into a tizzy, we may get to a situation in some markets where the rates hardly matter at all because you just can’t get credit,” Blinder says.
If the impasse lasts for more than a few days, the economy will “almost certainly” be pushed back into a recession, Blinder says. That’s because of an unprecedented cutback in government spending. Even if the government avoided default by paying off its debt, losing the ability to borrow would mean a 40 percent drop in government spending — about 10 to 11 percent of GDP.
The stock market is very likely to tank, as well, driven by a serious loss of confidence in the U.S. government.
“You will get the investing community, not just of the United States but of the entire world, thinking that we’ve lost our marbles over here,” Blinder says. “And we will have — because [failing to raise the debt ceiling] is a completely crazy thing to do.”
Is it likely to happen? Only if politics gets in the way.
“It doesn’t matter how you’d like to resolve the future budget deficits of America…we just need to raise the debt ceiling,” Slaughter said.
That’s a plan Washington seems to be slowly and painfully hammering out. In a Friday morning press conference, President Obama said he was “expecting some answers” from congressional leaders in the next couple of days.
“It wouldn’t be a bit surprising to me if they settle this at midnight on August 2,” Blinder said.
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