2023-05-25 12:14:05
► Why is there a risk of US default?
The organization of power in the United States means that it is up to parliament, Congress, to authorize the administration to borrow. The latter determines a maximum debt ceiling. And because of recurring budget deficits, it is regularly called upon to vote to raise this ceiling. Currently, it is at $31.4 trillion. However, the US Treasury Department (the equivalent of the budget ministry) is dangerously approaching this threshold.
In principle, raising this threshold does not pose any problem. The US signature remains one of the best in the world and as a result, the US Treasury would have no difficulty in borrowing more. But in Congress, this vote is the subject of a political showdown. The House of Representatives (the deputies) is controlled by the Republicans who exert strong pressure on the Democratic President, Joe Biden.
House Republican Leader Kevin McCarthy is demanding $130 billion in social spending cuts in the current fiscal year. And Joe Biden, who is about to run for a new term, refuses. On the contrary, he advocates revenue increases through tax increases for the wealthy. Inside the Republican camp, the most radical push to go to the end of the showdown. And meanwhile, the clock is ticking and the Biden administration is getting dangerously close to the time when it will no longer have the right to borrow.
► On what date could the payment default occur?
The debt ceiling could be reached on June 1. This is a theoretical date, because the amount of what comes in and goes out of the state coffers cannot be anticipated. “There is always uncertainty about tax revenues and expenditures,” explained Janet Yellen, Secretary of State for the Treasury. “But my assessment is that the chances of reaching June 15 and still being able to pay all our bills are quite low,” did she say. In a letter sent to Congress, she mentions a possible deadline “beginning of June, and maybe as early as June 1st”.
To date, the Treasury has been able to cope without too much damage by dipping into various budgetary pockets for future expenditure. But on June 1, the United States must repay $117 billion in maturing Treasury bills. They must also, that day, pay 101 billion dollars for health insurance, military pay, civil servants’ retirement, veterans’ benefits and supplementary social security… It is not certain that these sums will be available that day if the United States cannot borrow them.
► What is the difference between a payment default and a “shutdown”?
Political crises are recurrent in the United States. They regularly lead to spending decisions being blocked and to “shutdown”, ie the temporary closure of administrative services considered non-essential (museums, national parks, etc.). In 2018, a shutdown lasted thirty-five days when the Democratic majority in Congress opposed President Donald Trump who demanded funding for “his” wall on the border with Mexico. It’s the longest shutdown in US history.
If the United States can no longer borrow, this will undoubtedly lead to a similar situation, but also to a default, that is to say an inability to repay the maturities of the borrowings of the American Treasury. This will result in a downgrading of the US credit rating. The agency Fitch has already announced, this Wednesday, May 24, to put the note of the United States “under surveillance”.
A default would be like the “USA company” suddenly going bankrupt. It should ask its creditors for payment facilities. This has never happened stricto sensu in the history of the United States. A political blockage to raise the ceiling occurred in 2011 and that was enough for the United States to lose its “triple A”, the best rating from the rating agencies. A lower rating means it becomes more expensive, and more difficult to borrow. It is a loss of confidence from which it takes a long time to recover.
► What would be the consequences of a US payment default?
An inability of the US Treasury to honor its bills would have a multitude of consequences, each more catastrophic than the next. And even getting close to this situation is already very dangerous: “The closer we get to the abyss, the more people panic. But panic leads to irrational decisions, and that’s what markets fear the most.” said Jamie Dimon, the CEO of the largest American bank, JPMorgan, in an interview with Bloomberg TV.
The United States could find itself in a situation of not being able to pay the salaries of civil servants, social benefits could also no longer be paid. But there is even worse: a default would cause a global financial crisis.
“The global financial system relies on the fact that US Treasury bonds (debt securities issued by the United States) are deemed risk-free, explains Samy Chaar, chief economist of Lombard Odier bank. When a bank lends, it must have some in return. They serve as collateral. All savers have them, often without knowing it. A default on these securities would therefore have unimaginable consequences. »
It would result in an immediate surge in interest rates that many economic actors would be unable to cope with, a loss of confidence in the American financial system, in the dollar, with the risk that no bank or financial institution would lend any more. money to another… A situation so serious that it seems very unimaginable.
► What are the possible solutions?
The most logical outcome would be for the Democrats and Republicans to come to an agreement and then vote to raise the ceiling. If this is not the case, the White House has various parades, but the legality of which is not certain, insofar as these are solutions that have never been implemented.
Janet Yellen could invoke the 14th Amendment to the Constitution, which prohibits questioning the solvency of the United States. This would allow him to bypass the ceiling. It could also decide to create a 1,000 billion dollar coin. But these ideas remain fairly theoretical.
The most probable is that in the event of a default, the Federal Reserve would have to intervene. In principle, it does not have the right to finance the Treasury directly. “But from the moment it justifies it by the need to preserve financial stability, which is part of its missions, it can arrogate the right to buy what it wants”, notes Samy Chaar. The central bank could therefore directly buy the bonds in default, and exchange them for sound bonds.
However, this solution could only be temporary. And would damage the image of the United States as a pillar of the international financial system. Today, US Treasuries are a $24 trillion market. They serve as a reserve asset for all the major central banks, as a guarantee, as a medium of exchange. They are what gold has long been. And it is confidence in this asset that is likely to come out diminished.
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