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What a debt ceiling agreement means for you

The White House and Republicans in Congress are reportedly backing an agreement to raise the country’s debt ceiling while cutting spending over the next two years.

But both sides have stressed that they are not there yet, that an agreement may still not materialize and any agreement would have to be passed by a fractious Congress.

Meanwhile, the economy is on the brink.

The proposed compromise would limit annual discretionary spending to fiscal 2023 levels for two years, less than the six years Republicans were aiming for while increasing the country’s borrowing powers through the end of 2024.

Such a pact would likely have a relatively modest impact on the US economy, experts say.

Meanwhile, hitting the debt ceiling could potentially have devastating effects if dragged on for weeks or months. The impact of a short-term breach may be limited if the government avoids a default as expected and manages to pay its bills, or delays various payments, such as Social Security, by a day or two.

Treasury Secretary Janet Yellen said on Friday the government would run out of money by June 5 unless the debt limit is raised or suspended, giving negotiators four more days than expected to finalize a deal.

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Here’s a look at the impact of different scenarios:

What happens to the economy when government spending falls?

If the proposed deal passes Congress by June 5 and allows the US to avoid the default, reduced federal spending would eat into the country’s gross domestic product by a modest 0.1% next year, according to Goldman Sachs. It would also cut US employment by about 120,000 jobs and increase the unemployment rate by a tenth of a percentage point by the end of 2024, says Mark Zandi, chief economist at Moody’s Analytics.

“Not the best time for fiscal austerity as recession risks are high,” says Zandi. “But it’s manageable.”

By comparison, if President Biden had approved spending cuts of $2.4 trillion — just over half the amount Republicans are asking for — he would have cut GDP growth by eight-tenths of a percentage point and several hundred thousand more jobs lost Oxford Economics.

“The contemplated spending cuts are unlikely to materially impact the macroeconomic outlook,” Goldman Sachs wrote in a research note.

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Will the United States default on its debt?

No. The government would prioritize repaying debt to bondholders to avoid an actual default, economists say. A major reason the Treasury Department can do this, according to Moody’s, is that debt payments are made through a different computer system than other obligations like Social Security, Medicaid, and food stamps.

Also, when a Treasury bond matures, the government can pay off the bondholder by issuing a new bond, leaving the US’s overall debt unchanged, says Oxford economist Nancy Van Houten.

Meanwhile, interest payments on government bonds are due on the 15th and 30th of the month, says John Canavan, Oxford’s chief financial analyst. According to Van Houten, the Treasury expects quarterly tax receipts of around $125 billion on June 15. And on June 30, according to the Bipartisan Policy Center (BPC), the Treasury Department can take “extraordinary measures” like delaying certain investments that would free up another $145 billion. That cash raise would be more than enough to make interest payments, the analysts say.

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What happens to Social Security when the US hits the debt ceiling?

Could the state pay Social Security and other bills if the debt ceiling isn’t raised?

That would be close, but probably not. According to Yellen, the Treasury Department has $92 billion in payments and remittances to make during the week of June 5 and does not have the resources to meet all of those obligations. Van Houten says it’s possible, but unlikely, that the government would have enough cash from tax revenues to pay bills by June 15.

Could the US pay some bills, like Social Security, more than others?

Almost certainly not. The Treasury Department’s computer systems are designed to make payments when they are due, says Bernard Yaros, an economist at Moody’s. Moreover, it would be “of questionable legality” to settle some obligations before others, according to the BPC’s description of the view taken by tax officials after the debt ceiling halted in 2011.

What happens when the government runs out of money?

Based on a 2011 Treasury Department draft, the Treasury would defer those payments to the next day if it couldn’t pay all bills due on a given day, according to Goldman and BPC. The second day’s payments would then be deferred to the next day, and so on.

For example, the government is scheduled to pay $5 billion in Medicaid payouts and $4 billion in federal salaries on Friday, June 9, according to BPC. Monday, June 12 is scheduled to pay out $2 billion in federal salaries and $1 billion in food stamps.

Then, on June 15, the $125 billion in tax receipts will arrive, while the $145 billion in extraordinary measures will take effect in late June and give some breathing room until sometime in July, Oxford says .

Over time, however, the delays would multiply and lengthen, compounding the impact on the economy, Yaros says, as Social Security recipients, federal employees and others scale back spending.

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What happens to the economy in this scenario?

If it lasts about a week, the impact would likely be modest, Zandi says. But if it takes two to three weeks, “the increasing uncertainty would be too great for the economy”.

Van Houten says even a crisis lasting more than a few days would hurt the economy and jobs.

Is it a default if the US pays off its debt but other bills don’t?

The Center on Budget and Policy Priorities says the damage to the economy would be similar, as non-payment by Social Security beneficiaries, for example, still raises questions about the country’s creditworthiness. And Treasury Secretary Janet Yellen said failure to pay bills amounts to insolvency.

But Moody’s and the financial community say a default refers specifically to failure to make payments to bondholders.

Yields on short-dated government bonds maturing in June have already surged to compensate investors for the risk that they might not get their money on time. Such securities are vital to the global financial system because they serve as collateral for financial transactions and short-term business loans, Canavan says.

If the impasse continues and few investors want to buy government bonds, much of the financial system would slow down or grind to a halt. Borrowing costs would skyrocket. Business and consumer confidence and spending would fall. And the economy would plunge into recession.

But the damage would be even greater if the government actually defaulted, say Yaros and Canavan.

What happens if the debt ceiling is exceeded in the short term?

GDP would fall by 0.7 percentage points, 1.5 million jobs would be lost and unemployment would rise to almost 5% from 3.4%, Moody’s estimates.

What happens if the conflict over the debt ceiling drags on for weeks or months?

The federal government would have to cut spending as funds ran out and rating agencies downgraded Treasury debt. GDP would fall by 4.6 percentage points, unemployment would rise to 8% and 7.8 million jobs would be lost, Moody’s estimates.

Contributor: Joey Garrison

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