The more telling precedent, however, was probably a similar stand-off in 2011 when the US got so close to a default that Standard & Poor’s downgraded its credit rating. Barack Obama was forced to agree to $US2.5 trillion of spending cuts over a decade to avert disaster. S&P hasn’t reinstated America’s AAA rating.
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The 2021 episode followed the more familiar pattern, with the Republicans wringing maximum political mileage out of the debates about debts and deficits that the debt ceiling deadlines allow before caving in at five minutes to midnight. The ceiling has been agreed more than 100 times since the Second World War.
The situation today is potentially even more incendiary than in 2011, when it was the fiscal hardliners in the “Tea Party” driving the Republican position.
Those who extracted the lengthy list of concessions from McCarthy (one, Matt Gaetz, said he had finally supported McCarthy because he had run out of things to ask for) include an odd mix of Trumpist “MAGA” conservatives and the successors to the Tea Party, the House Freedom Caucus.
Among their demands in return for raising the debt ceiling is a reprise of the 2011 deal.
They want substantial cuts to spending, indeed, there are those who want to impose a legislated budget pathway to a balanced budget within a decade that would probably require more than $US1 trillion of annual reductions in government spending, including swingeing cuts to defence spending, Medicare and other social welfare programs.
The Democrats’ left wing will never agree to big cuts to social spending, regardless of the consequences.
With the Biden administration adamant that it will resist what its spokesperson has described as “hostage taking” but McCarthy himself hostage to the minority of dissidents in his party that had blocked his elevation 14 times – he agreed to a provision that a single member of the House can force a vote to oust him, where previously the vote could only have been called by the party’s leadership – the potential for something catastrophic is probably greater than in previous debt ceiling confrontations.
A failure to lift the ceiling and a default on US government debt would be catastrophic.
Moody’s Analytics has estimated that a default would cause a 4 per cent cut to US GDP, an unemployment rate of 9 per cent (it’s currently about 3.5 per cent) and a $US15 trillion hit to household wealth.
Those are the direct domestic impacts. With trillions of dollars of US government debt held by foreigners, mainly by Asian economies with surplus savings – Japan holds more than $US1 trillion and China just under $US1 trillion – a default would have global repercussions.
The Democrats’ left wing will never agree to big cuts to social spending, regardless of the consequences.
The prospect of an imminent default would see an exodus of foreign bondholders and prospective buyers of Treasuries, causing carnage in the US bond market and plunging the US dollar into meltdown.
America’s “exorbitant privilege” – its ability to borrow relatively cheaply, avoid balance of payments crises and act as the world’s financial safe haven during outbreaks of global financial stress because of the dollar’s status as the world’s reserve currency – could be lost, or certainly significantly impaired.
That would play into the hands of others, like China, Russia and even the Europeans, who would like to see the power of the dollar and its potential to be weaponised (as it has been in sanctions against Russia and China and their companies and citizens) greatly diminished.
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Sharemarkets would fall and interest rates would rise to reflect the heightened risks and uncertainties generated by a US default.
Even the imminent threat of a default would generate volatility in a year where there are already so many uncertainties like the war in Ukraine, China’s re-opening, the energy market stresses, global inflation and interest rates and the prospect of a global recession.
Hopefully sanity, while a dubious quality in some sections of the Republican Party and MAGA-aligned members of the House in particular, will prevail as it has in the past. The alternative is chaos, destruction, distress for the less-wealthy Americans and a greatly weakened America.
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