Politicizing of US Debt Ceiling

By Mehmood Ul Hassan Khan | Gwadar Pro May 26, 2023

Editor's Note: The author is Executive Director of the Center for South Asia & International Studies (CSAIS) Islamabad and Regional Expert on China, BRI & CPEC. The article reflects the author's opinions and not necessarily the views of Gwadar Pro.

The ongoing political negotiations between the Republican and Democratic parties on the US debt ceiling in the United States of America have created elements of uncertainty and uneasiness worldwide.

The world economy is experiencing violent swings due to the ongoing US political drama. This situation is causing uncertainty and concern for developing countries, which have already been impacted by the constant and continued tight monetary policies and interest rate increases of the US Federal Reserve System.

The approaching deadline for the US debt default date, also known as the X-Date, has become a prominent topic in the international media. Congressional leaders and the White House are attempting to reach an agreement to raise the federal debt ceiling and avoid an unprecedented default. However, the political divide between them is significant, making it challenging to find a resolution. There are fears that failure to reconcile their political differences could lead to complete chaos in the country and worldwide.

In previous instances, debt ceiling negotiations stalled when Republican negotiators rejected a White House proposal to limit spending on both defense and various domestic programs. Both parties are strategically positioning themselves to secure a significant share in national politics, resulting in deliberate use of delaying tactics. In this regard, the Republicans instead pushed for increased military spending, which would require deeper cuts to a series of domestic spending programs that the White House has deemed off limits. The US House Speaker Kevin McCarthy said talks would be resumed on the return of the US President Joe Biden return from Asia.

There are concerns that the disapproval of the US debt ceiling would create a lethal combination that could severely impact the entire financial system, subsequently wreaking havoc on the economy.

In light of this, US Treasury Secretary Janet L. Yellen has written a letter to US Congress Speaker Kevin urging timely agreement on the debt ceiling, which has yet to be finalized due to the political priorities of both parties.

A US debt default would have complex and far-reaching consequences, starting with the halt of federal payments, which would inflict significant harm on the overall economy. This would also have a detrimental effect on the stock market, exacerbating the damage to the economy in a cascading effect.

Furthermore, the default would lead to elevated home values, resulting in turbulent interest rates and destabilizing the global financial system. According to US estimates, over 8 million jobs would be wiped out, mortgage rates could skyrocket by more than 20 percent, and the overall economy would experience further contraction. It would form a vicious circle due to which the financial system, stocks, bonds, mutual funds and derivatives would be at the receiving end.

Stocks would continue to plummet, while interest rates would rise, causing investors to withdraw funds from the market in order to secure short-term cash. This would further disrupt and deteriorate the banking sector.

According to the International Credit Agency Moody, stock prices could potentially decline by approximately one-fifth, resulting in the loss of $10 trillion in household wealth and devastating the retirement accounts of millions of Americans. The White House has estimated an even more significant decline of around 45 percent.

Furthermore, the US$46 trillion bond market would collapse as the values of existing Treasury bonds falter in the face of higher yields on newly issued bonds.

According to US figures, more than 60 million people, mostly seniors, receive monthly Social Security payments, and a similar number rely on Medicare for their health insurance. In the event of a US debt ceiling rejection, millions of people would find themselves in a difficult position.

In the globalized world, many nations have been investing heavily in US government debt in search of profits. However, breaching the debt ceiling could drive down the value of those bonds, adversely affecting reserves for many countries.

There are concerns that a US debt default would significantly increase the number of countries burdened with debt, similar to the situations in Sri Lanka and Pakistan. This could lead to a rise in protests and global geopolitical instability, further deteriorating the national currency of Pakistan.

Additionally, a US debt default would strengthen the de-dollarization trend worldwide, as over 30 countries have already shown keen interest in transitioning away from the dollar and joining the upcoming BRICS currency.

In conclusion, a US debt default would severely harm the US economy, banking and financial industries, as well as money, bond, and real estate markets, leading to a deep recession. The political divide between US political parties would exacerbate this economic disaster and cause destruction within the banking sector. Unresolved and unproductive political manipulations would create an economic crisis of unprecedented magnitude, further impeding the post-pandemic global economic recovery.

The need of the hour is political unity, rising above self-made political constituencies of egos, ethos, empathies, and ignorance. The US Congress should immediately vote to raise or suspend the debt limit without conditions. Waiting until the last minute would only intensify the suspense, as the global economy, banking industry, and stock exchanges precariously hang on the precipice, awaiting a potential avalanche.

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