One of the fundamentals of finance is that U.S. government securities represent a “risk-free” rate of return, but unless Congress and the White House come out with a deal to raise the debt ceiling, we could expect a historic default by June. may head to 1, according to Treasury Secretary Janet Yellen (opens in new tab)If so, what impact can you expect on your own finances?
First, what is the debt ceiling? Federal law limits the amount of government bonds that the U.S. Treasury Department can issue in the form of securities such as Treasury bills, bonds, and bills. Once the debt ceiling or debt ceiling is reached, the U.S. government cannot borrow any more until Congress raises the ceiling. This means that, under current rules, there will soon be insufficient cash for future interest payments on existing debt.
This is not the first time we have been here. In 2011 there was a last-minute failure to default, resulting in the US government losing its AAA credit rating. (opens in new tab)If history is any guide, Congress and the White House will reach a last-minute deal to raise the debt ceiling. Or, if the U.S. government were to technically default, the chaos that would soon follow would force both parties to wrap up a deal immediately.
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But regardless of how specifically these events play out, there are some potential implications for our finances.
Borrowing costs rise
A default could paradoxically push US Treasury yields lower, much like the 2011 near miss. But yields on corporate bonds and other non-U.S. Treasuries could rise as investors divest themselves of riskier assets. This can have a snowball effect on mortgage interest rates, as well as loan and credit card interest rates. Interest rates are already high due to the Fed’s rate hikes in an attempt to keep inflation under control.
“The main impact is that interest rates will rise significantly,” Howard Gleckman, a senior fellow at the Urban Brookings Center for Tax Policy at the Urban Institute, a nonprofit research group, told NBC News. (opens in new tab)“And they’re already rising fast and sharply. This will accelerate the move towards higher rates,” he said.
Possible furloughs and salary delays
According to the nonpartisan National Congress of State Legislatures, if the U.S. were to default on its debts, a government shutdown wouldn’t be a given, but “non-essential” federal workers could still face furloughs. (opens in new tab)This means that the employee has been temporarily laid off and is not getting paid. Over 800,000 federal employees during 2019 shutdown (opens in new tab) They were expected to be furloughed or continue working without pay. They were eventually compensated for their outstanding payments once the government reopened, but many had their economic lives severely affected for weeks.
If you work in the private sector and the company you work for is dependent on federal funding, that funding may be considered non-essential. You may get fired.
It might make sense to have a little extra cash on hand, such as an emergency fund, in case you’re furloughed.
Delayed Social Security and Medicare payments
Social Security has been called the “third rail” of American politics. Because any politician considering a change is at risk of electrocution and the death of his political career.
House Republicans want raising the debt ceiling to lead to cuts in government spending. These cuts are unlikely to include Social Security or Medicare, as Republicans are not united in wanting the cuts and are highly unpopular with older Republican voters.
That said, there is a real risk of delays in Social Security and Medicare payments in the event of cash shortages. Recipients will most likely recover once the crisis is resolved — no politicians want angry voters — but delays will still cause delays in mortgages and other monthly bills. It may be taken.
Long waiting times for tax refunds
If you have applied for a tax extension and have not yet filed your 2022 tax return, you may have to wait longer than usual to receive your tax refund when you file your tax return. While the White House and Treasury have remained silent on the matter, it’s safe to assume that in the event of default, returning tax to extended filers is not a priority.
Typically, only about 10% of taxpayers apply for extensions, so this won’t affect many Americans. But if you’re one of those 10% of hers, it’s a good idea to file your taxes quickly before you experience any delays related to the debt ceiling.
401(k) and investment
This is the scariest part. There has never been a U.S. government default, so who knows what the aftermath will be. If the experience of other countries is any indication, we can expect greater market volatility.
In times of crisis, investors usually rush to see the safety of cash and government bonds. But it’s not immediately clear where investors will go if the government, whose faith and credit underpins cash and bonds, defaults.
During the credit downgrades and defaults of 2011, bond yields actually fell as investors feared defaults rather than slower growth or recession caused by defaults. So they bought the bond of the entity whose malfunction caused the turmoil in the first place.
This is all hypothetical, and both sides are likely to come to an agreement. But if not, be prepared for a rough ride.