If the United States defaults on its debt, any benefits from the Federal Reserve’s accommodative monetary policies will be “immediately offset” and the Fed will have little ability to stanch the economic fallout, according to Fed Chairman Ben Bernanke.
Moody’s Investors Service, one of the world’s leading credit agencies, announced late Wednesday that it would review the United States’ triple-A bond rating for a possible downgrade if lawmakers fail to raise the debt limit. Such a downgrade would be a "self-inflicted wound," Bernanke told the Senate Banking Committee on Thursday.
The economic fallout of a downgrade could include higher interests rates and a slowdown of the economy, which together would defeat efforts to reduce the nation’s deficit. Asked if he could think of any worse wounds the U.S. could inflict on its own economy, Bernanke responded, “You tax my imagination.”
If the United States went into default, the Fed “would do what we could to preserve the operationality of the system... but I want to eliminate any expectation that the Fed through any mechanism could offset the impact of a default on the government debt,” Bernanke said.
He reminded lawmakers that Moody’s warning was the result of political risk-taking. “Nobody thinks the United States cannot pay its debts,” he said.
Thursday was the second of two days of Bernanke's semiannual testimony before Congress on monetary policy and the U.S. economy. He emphasized the same key points he made on Wednesday before the House Financial Services Committee: It would be “calamitous” for the United States to default on its debt, and lawmakers need to address the country’s long-term fiscal sustainability.
He reiterated that the Fed wants to keep options for further easing as well as tightening on the table, but said the Fed is “not prepared at this point to take further action."
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