WASHINGTON — Economists at Moody’s Analytics estimate that the Treasury Department will run out of borrowing room by mid-August if Congress doesn’t act to raise or suspend the statutory debt limit by then.
The “x date” after which Treasury may not be able to pay all of the federal government’s bills appears to be Aug. 18, specifically, according to Moody’s economists Mark Zandi, Christian deRitis and Bernard Yaros.
The trio laid out various scenarios and potential consequences of failure to lift the $31.4 trillion debt ceiling in a new paper this week, on a topic that was examined more closely Tuesday afternoon in a Senate Banking subcommittee hearing led by Sen. Elizabeth Warren, D-Mass. Zandi is among those slated to testify.
The Moody’s paper lays out potentially fearsome scenarios, particularly if there is a lengthy stalemate. If there is a “prolonged breach,” the analysts wrote, “the blow to the economy would be cataclysmic.”
Zandi testified at the Banking subcommittee hearing that the only viable option is for Congress to increase, suspend or eliminate the debt limit by the “x date.” Failure to do so, Zandi said, "would be chaotic for financial markets — the stock market, the bond market, foreign exchange markets — and would push us into a recession, in one form or another, depending on the circumstances."
Zandi's comments echo those from Federal Reserve Chairman Jerome Powell at a Senate Banking hearing earlier in the day. While “hard to estimate,” Powell said, the consequences of failure to act on the debt limit “could be extraordinarily adverse and could do long-standing harm.”
Moody’s economists note expectations remain that policymakers likely won’t allow the situation to get to that point, given Congress has always acted in time in the past. However, they wrote that the current debt limit debate “looks to be even more vexed” this time and that the odds of a debt limit breach are “meaningfully greater than zero.”
The paper notes the difficulty with which Kevin McCarthy, R-Calif., managed to get elected speaker, along with the concessions he made to conservatives — including steep spending cuts Democrats have already rejected.
Such circumstances, the Moody’s authors wrote, “do not augur well for a reasonably graceful resolution to the current impasse.”
Another concern, according to Zandi and his coauthors, is that financial markets do not appear to have priced in a debt limit stalemate.
With stock and bond prices not yet factoring in a possible market-rattling failure to pay U.S. obligations, “policymakers may believe they have nothing to worry about and fail to resolve the debt limit in time,” Moody’s authors wrote. “This would be an egregious error.”
Moody’s said its estimated Aug. 18 date is a few days after the Treasury would have made a scheduled interest payment to bondholders.
“Investors in short-term Treasury securities are coalescing around a similar X-date, demanding higher yields on securities that mature just after the date given worries that a debt limit breach may occur,” according to the analysis.
Congress is scheduled to be in its summer recess the month of August, and the Moody’s timeline puts added pressure on lawmakers to resolve the situation before they leave Washington this summer.
Other analysts estimate the temporary measures could be exhausted as early as July, with an outside chance of exhaustion in June.
Moody’s analysts lay out five scenarios for how the drama could end, ranging from a “clean” debt limit boost with no conditions to a prolonged breach in which the Treasury can’t make required payments to bondholders, Social Security recipients, government contractors and more. The options are listed in order of least to most harmful to the U.S. economy:
Clean debt limit increase
Moody’s economists wrote that “history is a good guide” and portends a last-minute deal to raise or suspend the debt limit temporarily, with no spending cuts or other financial conditions attached.
“This scenario is consistent with the long, arduous history of agreements on the debt limit, and it is fitting given the bipartisan nature of the financial obligations the debt would cover,” they wrote.
Under this scenario, lawmakers would pass a short-term debt limit suspension through Sept. 30, lining up the new deadline with when lawmakers need to act on fiscal 2024 appropriations or face a partial government shutdown. Congress would then go on in October to raise the debt ceiling enough to “push the next debt limit battle into early 2025,” after the presidential election.
“Getting the debt limit legislation across the finish line will surely be messy and painful at times, causing heightened volatility in financial markets. But in this scenario, lawmakers ultimately get the job done before there is economic damage,” Zandi and colleagues wrote.
‘Constitutional crisis’
In this scenario, Congress fails to act in time and the Biden administration resorts to one of various untested workarounds.
One option is to invoke the 14th Amendment to the Constitution, which states that the “validity of the public debt … shall not be questioned,” to keep paying the bills. Moody’s acknowledges this option may be “a tenuous constitutional interpretation for the president to use,” but that it “seems the most viable option” as a last resort.
Moody’s is less enthusiastic about other possibilities. One would have the Treasury mint a trillion-dollar platinum coin, deposit it at the Federal Reserve and use those funds to pay the bills temporarily. Moody’s said use of this authority would amount to “circumventing Congress’ power of the purse” while also putting the Federal Reserve in the middle of the fight.
Another option for the Treasury is to issue “premium bonds,” or sell debt for more than face value. The Treasury would collect extra cash, but investors would be promised higher interest rates. Moody’s called this option a “budget gimmick” that would be costly and cause interest rates “to spike as investors view this chicanery as putting the nation’s fiscal discipline at risk.”
Payment prioritization
Under this “more worrisome” scenario, according to Moody’s, the Treasury is forced to prioritize who gets paid first out of remaining cash balances after borrowing authority is exhausted.
The Treasury would “almost certainly” try to pay bondholders first, but it’s unclear whether it has legal authority to do so, and bond investors would still demand higher interest rates to compensate for the added risk.
“Moreover, politically it seems a stretch to think that bond investors, who include many foreign investors, would get their money ahead of American seniors, the military, or even the federal government’s electric bill,” Moody’s economists wrote. More likely, the Treasury would delay all payments until it had enough cash on hand to pay them all.
“Financial markets would be roiled. A TARP moment seems likely,” Zandi and colleagues wrote, recalling when, in 2008, the House rejected the initial bill to establish the $700 billion Troubled Asset Relief Program. After that, lawmakers would quickly reverse course and back a debt limit boost, Moody’s wrote.
House Republican plan
While there is no specific GOP plan on the table, Moody’s models what could happen if Republicans successfully push through policies to balance the federal budget within a decade without any tax increases. The Committee for a Responsible Federal Budget peg the cuts required at as much as $16 trillion.
Moody’s analysts assume, for the sake of argument, that Republicans take Social Security and Medicare cuts off the table, as well as defense spending, and instead eliminate all nondefense discretionary spending as well as the entire Medicaid program.
This scenario, Moody’s wrote, would push the economy into a recession next year, cost 2.6 million jobs and push unemployment back to almost 6%, and shave 2.7% off inflation-adjusted gross domestic product a decade from now.
But there’s very little chance such a plan would ever be enacted, even when faced with a debt ceiling breach. House Republicans are still deliberating over their proposed fiscal 2024 budget resolution, and there’s been no agreement on what cuts they plan to propose, let alone make it through the Democratic-controlled Senate.
Sen. John Kennedy, R-La., said during Tuesday afternoon's hearing that it is “unthinkable” that Congress would not raise the debt ceiling. But he said the debt ceiling debate is a chance to discuss unsustainable federal spending levels and deficits.
“If we can slow the rate of growth in spending and debt accumulation to stimulate the economy less, that will save a lot of people’s jobs,” Kennedy said.
Prolonged breach
This is the “darkest scenario,” as Moody’s calls it, under which no agreement is reached for weeks. Rating agencies would downgrade U.S. credit and the “blow to the economy would be cataclysmic,” they wrote.
Under a potential six-week impasse at the start of October, Moody’s said the Treasury would be forced to immediately cut $350 billion in spending. Real GDP would drop by 4% next year, cost 7 million jobs, push unemployment above 8% and wipe out $10 trillion in household wealth.
“As these cuts work through the economy, the hit to growth would be overwhelming,” the paper said.
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(CQ-Roll Call journalists Niels Lesniewski and Aidan Quigley contributed to this report.)
