Title: As Debt Limit Deadline Looms, What is Needed to Avoid A Default
and Its Potential Widespread Consequences?

Related work: GAO-25-107089, Debt Limit: Statutory Changes Could Avert
the Risk of a Government Default and Its Potentially Severe Consequences

Description: To prevent the federal government from defaulting on its
debt when it neared the debt limit in 2023, Congress voted to suspend
the debt ceiling through this coming January 1. With that deadline
looming, the decision of how to address national debt may be one of the
first major decisions facing lawmakers after they are sworn in. In a new
report, we looked at the potential widespread consequences of a
government default on debt and actions Congress could take to avoid this
issue in the future. We learn more from GAO’s Michael Clements and Mike
Hoffman.

Released: December 2024

[Michael Clements:] Endangering the full faith and credit of the United
States government is not necessarily a good approach to managing debt.

[Holly Hobbs:] Hi, and welcome to GAO’s Watchdog Report. Your source for
fact-based, nonpartisan news and information from the U.S. Government
Accountability Office. I’m your host, Holly Hobbs. To prevent the
federal government from defaulting on its debt when it neared the debt
limit in 2023, Congress voted to suspend the debt ceiling through this
coming January 1. With that deadline looming, the decision of how to
address national debt may be one of the first major decisions facing
lawmakers after they are sworn in. In a new report, we looked at the
potential widespread consequences of a government default on debt,
including what we could see immediately and what could happen long term.
We also looked at actions Congress could take to avoid this issue in the
future. We’ll find out more from GAO’s Michael Clements and Mike
Hoffman, who led work for a new report on this topic. Thanks for joining
us.

[Michael Clements:] Thanks for having me, Holly.

[Mike Hoffman:] Pleasure to be here.

[Holly Hobbs:] So, Mike Clements, maybe we can start with what is the
debt limit and what does it mean to reach it?

[Michael Clements:] Sure. So, the debt limit is a legal limit on the
total amount of federal debt that can be outstanding at any one time. If
the government is at that debt limit and Treasury has obligations to
pay—it then must use existing cash resources to meet those obligations.

[Holly Hobbs:] So how have we, as a nation, avoided reaching the debt
limit so far?

[Michael Clements:] So in actuality, we actually have been at the debt
limit a number of times. In fact, since 2011, the federal government has
been at the debt limit 12 times. What Treasury has managed to do in
those situations, though it’s a couple of things. One, Treasury can use
existing cash to meet obligations. Treasury has what is known as the
Treasury General Account. Think of a checking account for the federal
government. So, if there’s money available, it can continue to make
payments on obligations from that. Treasury can also engage in what are
known as extraordinary measures. These are approaches that move debt
around or allow Treasury to meet obligations without bumping up and
going over that debt limit. The problem arises when the government is at
the debt limit, Treasury has exhausted all of those extraordinary
measures, and the cash balance in the Treasury general account is
getting low. That’s when the problems can arise. Thus far, we’ve been
fortunate. Congress and the president have managed to either raise the
debt limit and avoided the problem, or suspended the debt limit. So as
we sit here in December 2024, the debt limit is currently suspended, but
only until January 1, 2025. So in less than 30 days, we’re going to be
back in this situation again.

[Holly Hobbs:] So since you brought up this looming deadline, what
happens if the debt ceiling isn’t raised? What could we see immediately?

[Michael Clements:] If we’re at the debt limit, Treasury has exhausted
those extraordinary measures, and the cash runs out. That’s going to be
a problem at that instance. If that were to occur, Treasury is not going
to be able to meet the government’s obligations. And so therefore it’s
going to miss some payments. Might not be able to pay federal salaries,
might not be able to pay Social Security benefits, or it might not be
able to make interest in principal payments on outstanding debt. That
would be a default. The problem with a default is that these Treasury
securities are really the backbone for the financial system in the
United States. Treasury securities serve as collateral. So, for example,
if a bank needs to borrow money, it will oftentimes pledge Treasury
securities as collateral to get those loans. Treasury securities are
also the interest rates on them serve as a benchmark interest rate. So,
for example, a loan to a small business is oftentimes a multiple of a
Treasury security interest rate. So, you can imagine what would happen
if we have a default. The counterparty may not accept Treasury
securities as a collateral. Interest rates are likely going to go up
because people won’t trust Treasury securities as much. That’s going to
cause interest rates to go up for small business and households. So a
lot of negative sort of short-term effects. A number of our listeners
may have investments in money market mutual funds. That market could be
disrupted. And, again, you could see contractions of credit for
businesses and also consumers. 

[Holly Hobbs:] Mike Hoffman, we’ve also looked at the potential
long-term consequences. What do we think might happen?

[Mike Hoffman:] So how serious the long-term consequences could be
probably depends a lot on the length of the default. Are we talking
about a default that lasts a couple hours? Are we talking about a
default that lasts a number of weeks or even months? If we’re talking
about a protracted stalemate on the Hill that lasts weeks or months,
those financial market consequences that Mike mentioned would migrate to
the economy as a whole and have real consequences for American
households. So, we’re talking about potentially a major recession and
serious damage to the economy. Many of the experts we spoke with talked
about a recession that might look like the global financial crisis, or
what we now call the Great Recession. So to put that in perspective, the
Great Recession involved 8 million lost jobs, the stock market value was
cut in half, and the economy shrunk by 4%. International investors would
also begin to look at the United States financial system and its safety
a bit differently. Historically, the United States has been viewed as a
safe haven. The dollar has been a safe haven asset. These investors
would begin to look at the United States as a higher risk investment,
and would probably begin to charge U.S. borrowers, including the
Treasury, higher interest rates, to compensate for that risk. At the
same time, we think that a U.S. default as a result of the debt limit
could have some negative consequences for U.S. fiscal health. So, again,
ironically, something called the debt limit, which sounds like it’s
designed to improve U.S. fiscal health, could cause a default that could
cause a recession, a large drop in tax revenues for the federal
government, higher interest rates making borrowing more expensive for
the U.S. Treasury. These things combine to increase the deficit and make
the debt worse, and not limit it in any way.

[Holly Hobbs:] You never hear about this happening in other countries.
Is this a uniquely American problem?

[Mike Hoffman:] No other country has a debt limit quite like the United
States, or quite as consequential as the United States. The debt limit
began during World War I, as a way to provide Treasury more flexibility
to get Congress out of the business of approving every single debt
issuance, and instead provided Treasury more authority to issue debt
when it needed to. However, the flexibility that Treasury had at the
time is insufficient, and the limit has become more of a binding limit
on Treasury as U.S. debt has grown.

[Holly Hobbs:] You and Mike Clements have outlined some pretty stark
potential outcomes. How do we know that could happen?

[Mike Hoffman:] So the United States is fortunate that we don’t have a
history of default. Other countries—Argentina, for example, has
defaulted nine times. So, there’s a lot of experience with default.
Understanding the consequences of default. In the United States, we’ve
been luckier. And as a result, we had to look elsewhere to get some
confidence in projecting what these effects might be. So we did a number
of things. We spoke with academic economists. We spoke with financial
market professionals that would be on the front lines of managing the
consequences of default. We looked at the effects of default and other
countries that have experienced a sovereign default. We looked at
quantitative projections by groups like the International Monetary Fund,
Moody’s Analytics, the Federal Reserve. And finally, we looked at
episodes of significant financial stress in the United States and in the
European Union. So while the United States hasn’t experienced sovereign
default, it has experience with financial crises that we think could be
indicative of the consequences of default because of some of these
effects that Mike mentioned.

{MUSIC}

[Holly Hobbs:] So our experts just outlined some stark potential
consequences of the U.S. defaulting on its debt—which could include a
potential recession on the scale of the Great Recession nearly 20 years
ago. So, Mike Hoffman, how do we avoid all this? How do we stop this
kind of pattern of looming deadlines?

[Mike Hoffman:] There are some alternatives that we studied, and that we
advise Congress to consider. Importantly, all of these alternatives
provide Congress the essential control over spending and revenue while
avoiding the risk of default. The sorts of fiscal reforms that would
achieve this fall into two categories. The first is Congress provides
Treasury with authority to raise the debt limit when it needs to in
order to finance our bills and pay for spending that Congress has
already approved. The other category of reforms that we advise Congress
to consider is to automatically raise the debt limit when it approves a
new budget, when it approves a new spending program, or when it
approves, say, a new tax cut. All these reforms would better link
Congress’s spending and revenue decisions with the authority Treasury
needs to pay the nation’s bills.

[Holly Hobbs:] Mike Clements, maybe you can take our last question.
What’s the bottom line of our report?

[Michael Clements:] GAO has a long record of saying that the current
fiscal path and the current levels of debt are just simply
unsustainable. However, endangering the full faith and credit of the
United States government is not necessarily a good approach to managing
that debt. As Mike mentioned one of our recommendations here is for
Congress to better align decisions on the total amount of debt and also
its spending and revenue decisions. That’s going to allow Congress to
control the debt levels, while also mitigating any possibility of these
sort of very significant negative effects associated with a default.

[Holly Hobbs:] That was GAO’s Michael Clements and Mike Hoffman talking
about our new report on the debt limit. Thanks for your time, Mikes.

[Michael Clements:] Thank you.

[Mike Hoffman:] Thanks, Holly.

[Holly Hobbs:] And thank you for listening to the Watchdog Report. To
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