Debt Default Would Devastate US Economy, Moody’s Warns
The Debt

Debt Default Would Devastate US Economy, Moody’s Warns

REUTERS/James Lawler Duggan

What will happen if lawmakers fail to raise the $31.4 trillion debt limit before the U.S. Treasury runs out of cash to pay its bills in full and on time? According to a new report from Moody’s Analytics, a default on U.S. obligations would quickly push the economy into a recession and cost at least 1 million workers their jobs. And if the political deadlock over raising the debt ceiling were to continue for a significant period of time, the recession could spiral into a far more serious crisis that eliminates up to 7 million jobs and damages the U.S. economy for years to come.

The Moody’s report was highlighted Tuesday in a hearing of the Senate Banking, Housing, and Urban Affairs Committee’s Subcommittee on Economic Policy. Mark Zandi, chief economist at Moody’s, who authored the report along with Cristian deRitis and Bernard Yaros, told lawmakers that it is crucial for lawmakers to “increase, suspend, or eliminate” the debt ceiling well before the Treasury runs out of funds, which he estimates could occur by mid-August.

“There is a temptation to brush off the developing debt limit drama thinking it will end the same way as the others over the years with lawmakers coming to terms and signing legislation just in time,” Zandi said in his prepared remarks. “That seems a mistake given the heightened dysfunction in Congress and the large political differences gripping the nation.”

Zandi also cast doubt on the idea that the Treasury can technically avoid default by prioritizing its obligations, paying some debts, such as bond interest, while leaving other bills unpaid. “Bond investors, unsure of how this legal uncertainty would be resolved would demand a much higher interest rate in compensation," he said. "Moreover, politically it seems unimaginable that bond investors, that includes many foreign investors, would get their money ahead of American seniors, the military, or even the federal government’s electric bill for long.”

Asked by subcommittee chair Sen. Elizabeth Warren (D-MA) about Republican proposals to slash discretionary spending in exchange for agreeing to raise the debt ceiling, Zandi said that the potential cuts would likely cause a recession on their own. “Given the dramatic reduction in government spending in this scenario and the already fragile economy, the economy suffers a recession in 2024, costing the economy 2.6 million jobs at the worst of the downturn, pushing unemployment to a peak of near 6%,” he said. The damage would be lasting, Zandi added, eliminating a full year’s growth of GDP over a 10-year period.

Conservative experts agree on the need to move quickly: Douglas Holtz-Eakin, who ran the Congressional Budget Office during the George W. Bush administration and now leads a conservative advocacy group, called on lawmakers to raise the debt limit as soon as possible. “Failure to do so will inevitably lead to default on Treasury securities, generating global financial fallout, recession risks, and higher U.S. borrowing costs,” he said in his prepared remarks for the committee. Calling a potential default “a self-inflicted wound no one needs,” Holtz-Eakin noted that the debt ceiling is about spending that has already been agreed to and as such does not affect spending in the future.

Economist Michael R. Strain of the American Enterprise Institute said that Congress is running a risk by simply flirting with the potential debt default date. “Running up to the eleventh hour to raise the debt ceiling would be a substantial market and economic event that would leave U.S. taxpayers on the hook for billions of dollars of additional interest payments,” he said in his prepared remarks.

Strain also warned that the still-developing political dispute over the debt ceiling could damage the reputation of the U.S. in ways that could have real economic costs in the long run. “Is the United States a nation with a political system that is so dysfunctional that it cannot pay the bills it is legally obligated to pay?” he asked. “That question is at the heart of the uncertainty around the debt ceiling. The right answer to that question is: No. Congress and the President need to answer that question clearly by raising or suspending the debt ceiling as soon as possible.”