Treasury Secretary Tim Geithner said if Congress fails to lift the debt ceiling and the U.S. defaults on its obligations “this abrupt contraction would likely push us into a double dip recession,” painting the most explicitly dire prediction to date of the consequences of inaction.
In a heavily-anticipated response to Sen. Michael Bennet, D-Colo., who asked Geithner to document the economic and fiscal impacts of failing to lift the statutory debt limit, the Treasury secretary detailed a chain reaction that would cripple the economy, costing jobs and income.
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“A default would inflict catastrophic far-reaching damage on our nation’s economy, significantly reducing growth and increasing unemployment,” said Geithner in the letter to Bennet which was dated May 13. “Even a short-term default could cause irrevocable damage to the economy."
Geithner has imposed an August deadline for Congress to lift the $14.3 trillion debt ceiling, but lawmakers are still negotiating over Republican demands to tie the move to spending cuts. And a portion of the GOP still remains skeptical about the need to act by the deadline at all, arguing that the consequences have been overstates.
In the letter Geithner walked through the doomsday scenario he has been describing on the Hill. Default would cast doubt on the full faith and credit of the U.S., which would scare away investors and enable those remaining to demand higher interest rates on Treasury securities, which would have far-reaching negative ramifications. Increased borrowing costs would extend to families, businesses, and local governments, he said.
Because Treasury securities set the benchmark interest rate for a variety of consumer credit products, an increase in interest rates could drive up the cost on everything from mortgages to car loans and business loans.
A default on our obligations would also sap household wealth, threatening retirement savings; what's more, it could cut off Medicare and Social Security payments and cause another financial crisis, the letter said.
“A default on Treasury debt could lead to concerns about the solvency of the investment and financial institutions that hold Treasury securities in their portfolios, which could cause a run on money market mutual funds and the broader financial system,” Geithner said in the letter.
Ultimately he said the biggest threat would be a crisis of confidence in the United States. Confidence in the America’s ability to meet its obligations creates demand for Treasury securities in the first place, which lowers the borrowing costs for the government and in turn consumers. It has made investments in Treasury securities a safe haven for investors in times of panic.
“A default would call into question the status of Treasury securities as a cornerstone of the financial system, potentially squandering this unique role and the economic benefits that come with it,” Geithner said.