Many Americans consider the debt ceiling fight just another story about politicians behaving badly, which may be true, but if the fight is not resolved soon it may start significantly impacting the lives of everyday Americans. Currently polls show that most Americans are not that worried about the government defaulting on its debt, as they oppose a debt ceiling hike by a more than 2-1 margin. Most seem to think that a default is just technical matter which will not affect the way they live. However, a closer look reveals that a default would be much worse than a government shutdown, which most Americans did fear. Americans may actually end up regretting it if the politicians in Washington follow the “will of the people.”
The official statutory debt limit is $14.294 trillion. The federal debt currently sits at approximately $14.333 trillion. Many may ask how those two numbers are even possible. The details are complicated, but bascially the Treasury is using many accounting tricks to keep making payments on the debt and keep the government operating. The only reason the government has not gone into default already is that the Treasury Department has begun taking “extraordinary measures.” The first of these “extreme measures” was to stop issuing State and Local Government Series (SLGS) Treasury bonds. Those bonds are typically used by states and localities to help fund infrastructure projects (i.e. roads, bridges, sewer systems). As a result of this extraordinary measure states and cities will either have to stop repairing and building infrastructure projects, or use a more expensive means of funding. Ultimately this impacts Americans either through worse roads and bridges, or through higher taxes. This is just the first way the debt ceiling fight is affecting Americans. The most dramatic effects will come later in a more indirect manner.
Over the coming two months the Treasury Department will take more “extraordinary measures” in order to keep making payments on the debt, but there is a limit to what the Treasury can do. If the Congress does not increase the debt limit by August 2nd the Treasury will simply not have the funds to keep paying off the debt already borrowed, and for all intents and purposes that means a default.
Wall Street prefers to anticipate bad news rather than react to the news. Wall Street also hates uncertainty, as investors prefer to simply hold on to their money if they are not sure what will happen next. The longer Congress refuses to raise the debt limit the more investors will start preparing for the “worst-case” scenario of a default. The average 401(K) balance in America hit a new high in the first quarter of 2011, but many Americans may soon see their balances start shrinking if Wall Street reacts negatively to debt ceiling fight. Recently a number of Wall Street executives asked Speaker Boehner (R-OH) to assure them that he would not allow the government to go into default. Instead, Boehner “doubled down” on his rhetoric, and demanded trillions in spending cuts before he would agree to raise the debt ceiling.
Interest rates may also begin to rise if the debt ceiling issue is not resolved soon. If the United States debt, which previously was thought of as a safe investment, suddenly becomes a risk the credit market will start taking that risk into account by raising interest rates for everyone. Consumers will find it more difficult to find credit, and more expensive to take out credit for cars, houses, and everyday purchases. Variable interest rates on credit cards could also start increasing.
Finally, there is the risk that the debt ceiling fight could spark another recession. Just as the economy begins to recover and companies are start to hire again, it all could be brought to a halt if employers believe an economic catastrophe is on the horizon in the form of a government default.
White House advisor Austan Goolsbee has said an “economic catastrophe” would emerge from a failure to raise the debt ceiling. Even Speaker Boehner conceded that a financial disaster would result from a default on the United States debt.
And for those who believe a default would be “no big deal,” they need only look back one year to the example of Greece. The world financial markets, including the New York Stock Exchange, took a tumble at the mere risk of a default in Greece. Greece has a GDP of $329.9 billion. The United States has a GDP of $14.12 trillion, nearly 50 times the size of Greece. The United States debt is real money owed to banks, foreign countries, and the public at large. If that debt goes “bad” in a default it essentially means a loss to these banks, government and individuals. Many large banks would likely go bankrupt given their exposure to the United States debt.
Finally, as Nate Silver from The New York Times concludes, once a default occurs much of the damage will be irreversible. Much like an individual who stops making payments on their loans, the United States government will not be able to simply renew its old credit rating by making payments on the debt again. Once a default occurs the credit of the United States will be severely impacted in the long term, at the very least making it more expensive for the country to borrow in the future.
The only thing keeping Wall Street from already selling off because of the debt ceiling fight is the rationalization that surely Washington D.C. would not be dumb enough to actually allow a default. If Congress does not raise the debt ceiling that rationalization may soon start to fade away.