As months-long negotiations to raise the debt ceiling continue between Congress and the White House, the U.S. faces a fast-approaching threat: defaulting on its debt. If lawmakers don’t reach a deal soon, the debt ceiling debacle raises serious concerns over what would happen to the economy.
The Treasury Department began using a series of “extraordinary measures” in January to avoid defaulting on its debt, but the measures were only set to buy the U.S. about six months before it either had to raise the debt ceiling or come up with a creative way out—a deadline that’s quickly approaching.
Treasury Secretary Janet Yellen has said she anticipates Americans could feel the effects as early as June 1, but the exact date is unclear. No one knows what would happen if the U.S. defaults on its debt, which would be a historic first, but experts warn it would likely ripple into a global financial crisis.
Whenever tax revenue doesn’t fully cover government programs, such as defense spending, social programs, and government salaries—which it has every year since 2001—the government must borrow money, but it’s restricted by a set limitation on how much debt the U.S. can incur. Per the U.S. Constitution, Congress needs to approve all borrowing, so Congress implemented the debt ceiling over a century ago to avoid approving each new debt. Since then, lawmakers have raised the debt ceiling dozens of times.
“It’s Congress’s responsibility,” Eric Swanson, a professor of economics at the University of California, Irvine, tells TIME. “If you’re going to pass a law that the spending is this and the taxes are this, then whatever the difference is, has to be debt. You have to pass the law that authorizes the debt.”
Swanson is hopeful that Congress will avoid disaster by reaching an eventual agreement to raise the debt ceiling, but “they might push it really close to the deadline,” he says. “There’s a lot of disagreement these days.”
How’s how the debt ceiling fight could impact you.
Financial markets and 401(k)s
The U.S. defaulting on its debt would threaten the value of bonds, equities, and the U.S. dollar, which would unfurl in the global market already saddled with high inflation and interest, potential recession, and multiple geopolitical crises. The Dow Jones Industrial Average dropped throughout the last week of May as Wall Street prepared for the potential shock.
In short, it would be terrible for financial markets and anyone with a 401(k) retirement account.
A similar standoff to raise the debt ceiling in 2011 downgraded the U.S. credit rating for the first time, and there was a huge push to sell off stocks. The threat alone of reaching June without a solution may scare investors into pursuing international equities and foreign government bonds. A default would likely cause investors to lose confidence in the U.S.’s ability to pay its bonds, which have historically been viewed as some of the safest investments.
“Nobody knows for sure what will happen, because it’s never happened before. We’ve had these debt ceiling standoffs, the treasury has done these extraordinary measures before, and the standoffs have always gotten resolved,” Swanson says.
“So I guess there’s a big question when the Treasury comes to the end of these extraordinary measures, is there anything else they can do? Is there something else up the Treasury’s sleeve that they haven’t told anyone about?“ he adds.
Social Security and Medicare recipients
About 20%, just over $1 trillion, of the federal budget went to Social Security and around 13%, more than $760 billion, went to Medicare in 2022, making them two of the largest funded programs by the federal government. There are no disruptions in these programs expected for now.
However, if the government defaults on its debt, that could cause delays in Social Security and Medicare payments, along with other key programs like veterans’ benefits and SNAP food assistance.
To address the debt ceiling, in January House Republicans began discussing spending cuts to social programs. Some Republicans have discussed cuts to Social Security and Medicare, though the party is far from united behind that strategy. Lawmakers will likely prioritize funding Social Security and Medicare—not least because they are popular with a key voting bloc—older Americans.
“If Social Security payments were to be delayed, the voters would go completely ballistic,” Swanson says. “That would be politically very costly to both parties and I think none of them want that to happen.”
Government employees and taxes
One likely outcome for how the government will retain enough funds to keep borrowing is to suspend investments in federal pensions. The Federal Employees Retirement System is considered to be one of the best retirement plans available, reserved for the nearly two million civilian federal employees. Pension investments should be made whole once the debt ceiling crisis is resolved.
“There’s a lot of federal employees, so that’s actually a lot of money,” Swanson says.
Seasoned federal employees are all too familiar with the longest government shutdown in U.S. history that halted all nonessential government operations for 35 days from 2018-2019. Similar consequences were threatened towards the end of 2022 when Congress stalled to pass a federal spending bill.
The $1.7 trillion spending package Congress came up with after lengthy bipartisan discussions will fund the federal government until Sept. 30, 2023, when the fiscal year ends. At that point, Congress will need to pass a new spending bill, or the government will shut down, potentially leaving thousands of government employees on unpaid furloughs, like the more than 800,000 employees deemed nonessential in the 2019 shutdown.
The IRS typically announces adjustments to tax brackets in October or November, coupled with new tax provisions. These annual updates adjust taxes to keep up with the cost of living, so depending on inflation this fall, the adjustments for 2023 could be small or significant.
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