What if the U.S. defaults?

The Baltimore Sun /

Published Oct 13, 2013 at 05:00AM

Until recently, the markets largely ignored the political jockeying over whether to raise the federal debt ceiling, figuring there’s no way Congress would purposely default on the nation’s obligations and potentially throw the U.S. economy into another recession. But as the Oct. 17 deadline approaches, markets are getting nervous.

Q:

Does raising the ceiling increase spending?

A:

No. Raising the ceiling only allows Uncle Sam to borrow the money needed to pay its obligations that Congress has already approved.

Q:

Has the U.S. ever defaulted before?

A:

Some academics and budget experts argue that we have had defaults before — although certainly nowhere near the scale of what could happen this week.

In 1790, for instance, the newly formed U.S. government agreed to take on the war debt racked up by states and deferred interest payments on those bonds for a decade. In 1933, Congress changed the law so investors holding bonds that funded World War I could no longer demand repayment in gold.

And in 1979, the Treasury Department, dealing with a surge in demand for Treasury bills, was late with $122 million in payments to investors.

Q:

What happens if the ceiling isn’t raised?

A:

The government would not be able to borrow more and would be forced to rely on whatever taxes and fees come in to pay its ongoing bills. Under this scenario, the government would not be able to pay nearly one-third of its obligations between Oct. 18 and Nov. 15, the Bipartisan Policy Center calculates.

“It’s unclear what would happen,” said Till Schreiber, an assistant professor of economics at the College of William & Mary in Williamsburg, Va. While smaller, financially strapped countries have defaulted, we have never seen the foremost economy in the world unwilling to pay its bills, he said. Most agree that the outcome would be bad — worse than the fallout from the Lehman Brothers collapse five years ago.

Q:

Could the government make some payments?

A:

Some have suggested that if the debt ceiling isn’t raised, the federal government could still make interest payments to bondholders to avoid defaulting on U.S. debt. But that could disrupt markets and lead to higher borrowing costs.

Q:

Is a brief default OK?

A:

Another theory offered up by some Republicans is that a default of a day or so would have little impact.

But once the country breaches its promise to pay its obligations, you can’t undo that. And it’s likely that investors and consumers would fear it could happen again.