Even though President Joe Biden and the Speaker of the United States House of Representatives, Kevin McCarthy, reached a deal to raise the debt ceiling once more and save the US from catastrophic default, let's take a look at what would happen to the world economy if the United States defaulted on its $30 trillion+ debts.
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| Speaker Kevin McCarthy |
The amount of money that the US government may borrow is regulated by the debt ceiling. In 1917, the debt ceiling was established to stop the government from spending more than it takes in via taxes. But since it was established, the debt ceiling has been increased more than 100 times.
The $31.4 trillion debt ceiling in effect right now. The government will likely run out of money on June 5, 2023, having already crossed the debt cap. The government will be unable to fulfill its obligations and will fall into default if the debt ceiling is not raised by then.
The global economy would suffer greatly from a US debt default. It would result in higher interest rates, which would increase the cost of borrowing and investing for firms. Additionally, it would cause stock values to fall, wiping out trillions of dollars in wealth.
The global financial system would be significantly impacted by a US debt default. Since the US dollar serves as the world's reserve currency, the majority of nations maintain their foreign exchange reserves in it. The US dollar's image would suffer and it would become less desirable as a reserve currency if the US government went into default on its obligations.
This could lead to a decline in the value of the dollar, which would make it more expensive for US businesses to export their goods and services.
The US economy would be significantly impacted by a US debt default. Recessions, which are periods of economic downturn marked by declining production, employment, and investment, would result from it. Economic hardship and extensive job losses would result from a recession.
These are some of the possible scenario:
- Global Financial Turmoil: The greatest economy in the world and the hub of the international financial system is the United States. The global financial markets would most certainly experience a wave of panic and confusion if it made a debt default. Investors would turn become very risk-averse, which would cause a sell-off of American assets and a run for safer alternatives. The result might be substantial volatility and turbulence on the world's bond, stock, and currency markets.
- Loss of Confidence in U.S. Treasuries: One of the most reliable and accessible forms of investment is U.S. Treasury securities. This belief would be challenged by a default, which would also decrease trust in US government debt. In order to offset the increased risk, investors may demand higher rates on U.S. Treasuries, which would raise the cost of borrowing for the federal government of the United States. This would have an impact on borrowing costs for other nations as well as the whole global financial system.
- Currency Depreciation: As the world's reserve currency, the U.S. dollar would undoubtedly lose value if the country's financial markets were to be disrupted. There would be a variety of effects if the value of the US dollar decreased. It may help American exporters by increasing the competitiveness of their products on global marketplaces. However, it would also raise import costs, which would cause greater inflation and lower consumer purchasing power. It's possible that other major currencies would strengthen against the dollar, which would be bad for nations that rely on exports.
- Global Recession: A major worldwide recession might be brought on by a U.S. debt default. The U.S. economy is linked to other economies across the world through financial, trade, and investment relationships. A default would result in a substantial reduction in US government expenditure, which may lower GDP and cause job losses. Global businesses and consumers would be impacted, as well as trade and investment movements. Due to decreased demand and growing financial stress, the ensuing economic slump might spiral out of control.
- Contagion Effect: The world's financial systems are closely linked. Similar to what happened during the 2008 financial crisis, a US default may conceivably trigger a wider global contagion. Financial institutions that are exposed to derivatives or U.S. debt might suffer large losses that could jeopardize their stability. This might start a domino effect that spreads financial misery throughout the world and might even result in banking crises in various nations.
- Policy Responses: A U.S. debt default would probably prompt officials to take a number of steps to mitigate the consequences. Governments may employ fiscal stimulus to combat the economic slowdown, while central banks may offer liquidity support to calm financial markets. However, the scope and gravity of the crisis would determine how effective such actions would be.