Debt ceiling drama: What happens to the economy and your wallet if a deal is struck or not.

The White House and Republicans in Congress are reportedly closing in on a deal to raise the nation’s debt ceiling while cutting spending over the next two years.

But both sides have stressed they’re not there yet, a deal could still fail to materialize and any agreement would have to be passed by a fractious Congress.

The economy, meanwhile, hangs in the balance.

The proposed compromise would cap annual discretionary spending for two years at the fiscal 2023 level, less than the six years Republicans sought while raising the nation’s borrowing authority through the end of 2024.

Such a pact likely would have a relatively modest impact on the U.S. economy, experts say.

Meanwhile, hitting the debt limit could have a potentially devastating effect if it drags on for weeks or months.  The impact of a short-term breach may be limited if the government avoids default as expected and manages to pay its bills or delays various payments, such as Social Security, by a day or two.

Treasury Secretary Janet Yellen said Friday the government would run out of money by June 5 if the debt limit isn't raised or suspended, giving negotiators four days more than they expected to finalize an agreement.

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U.S. Rep. Patrick McHenry (R-NC) speaks to members of the press in a hallway of the U.S. Capitol on May 25, 2023 in Washington, DC. The Republicans and the Biden Administration continue negotiations as the debt ceiling deadline approaches.

Here’s a look at the impact of various scenarios:

What happens to the economy when government spending decreases?

If the proposed deal passes Congress by June 5, allowing the U.S. to skirt default, the reduced federal spending would trim the nation’s gross domestic product by a slight 0.1% next year, according to Goldman Sachs. It also would reduce U.S. employment by about 120,000 jobs in late 2024 and raise the unemployment rate by one-tenth of a percentage point, says Mark Zandi, chief economist of Moody’s Analytics.

“Not the greatest timing for fiscal restraint as recession risks are high,” Zandi says. “But it is manageable.”

By comparison, if President Biden had agreed to $2.4 trillion in spending cuts – slightly more than half the sum demanded by Republicans – it would have slashed GDP growth by eight-tenths of a percentage point and meant several hundred thousand more job losses, according to Oxford Economics.

“The spending cuts under consideration do not appear likely to meaningfully affect the macroeconomic outlook,” Goldman Sachs wrote in a research note.

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Will the United States default on its debt?

No. The government would prioritize debt payments to bondholders to avoid an actual default, economists say. A big reason the Treasury Department can do that is debt payments are made on a separate computer system than other obligations, such as Social Security, Medicaid and food stamps, Moody’s says.

Also, when a Treasury note matures, the government can pay off the bondholder by issuing a new note, keeping the total U.S. debt level unchanged, says Oxford economist Nancy Van Houten.

Meanwhile, interest payments on Treasury securities are due on the 15th and 30th of the month, says John Canavan, Oxford’s lead financial analyst. On June 15, Treasury expects to receive about $125 billion in quarterly tax revenue, Van Houten says. And on June 30, Treasury can take advantage of “extraordinary measures,” such as delaying certain investments, that would free up another $145 billion, according to the Bipartisan Policy Center (BPC). Those cash hauls would be more than enough to make interest payments, the analysts say.

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What happens to Social Security if the U.S. hits the debt ceiling?

Could the government pay Social Security and other bills if the debt limit isn't raised?

That would be a close call but probably not. Yellen says Treasury is scheduled to make $92 billion in payments and transfers the week of June 5 and doesn't have the resources to meet all of those obligations. Van Houten says it’s possible but unlikely the government would have enough cash from tax receipts to pay bills until June 15.

Could the U.S. pay some bills, like Social Security, over others?

Almost certainly not. Treasury’s computer systems are set up to make payments when they’re due, says Moody’s economist Bernard Yaros. Also, paying some obligations before others “would be of questionable legality,” according to the BPC’s description of Treasury officials’ view after the 2011 debt ceiling deadlock.

What happens if the government runs low on Money?

Based on a blueprint Treasury laid out in 2011, if it couldn’t pay all bills due on a particular day, Treasury would delay those payments to the next day, according to Goldman and BPC. The second day’s payments then would be deferred to the next day and so on.

For example, on Friday, June 9, the government is scheduled to pay $5 billion in Medicaid disbursements and $4 billion in federal salaries, according to BPC. On Monday, June 12, it’s slated to pay $2 billion in federal salaries and $1 billion in food stamp benefits.

Then, on June 15, the $125 billion in tax receipts arrive while the $145 billion in extraordinary measures take effect in late June, providing some breathing room until sometime in July, Oxford says.

As time goes on, however, the delays would multiply and lengthen, compounding the effect on the economy, Yaros says, as Social Security recipients, federal employees and others pull back spending.

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What happens to the economy in that scenario?

If it lasts a week or so, the impact likely would be modest, Zandi says. But if it drags on two or three weeks, “the mounting uncertainty would be too much for the economy to bear.”

Van Houten says even a crisis that lasts more than a few days would batter the economy and job market.

Is it a default if the U.S. pays back its debt but not other bills?

The Center on Budget and Policy Priorities says the damage to the economy would be similar because not paying Social Security beneficiaries, for example, still raises questions about the nation’s creditworthiness. And Treasury Secretary Janet Yellen has said not paying any bills amounts to a default.

But Moody’s and the financial community say a default refers specifically to a failure to pay bondholders.

Already, yields on short-term Treasury bills maturing in June have soared to compensate investors for the risk that they may not get their money on time. Such securities are vital to the global financial system because they serve as collateral for financial transactions and short-term business borrowing, Canavan says.

If the impasse continues and few investors want to buy Treasury bills, much of the financial system would slow or grind to a halt. Borrowing costs would spike. Business and consumer confidence and spending would plunge. And the economy would tumble into a recession.

But the damage would be worse if the government actually defaulted on its debt, Yaros and Canavan say.

What happens if the debt ceiling is breached in the short term?

GDP would fall by 0.7 percentage points, 1.5 million jobs would be lost and unemployment would rise from 3.4% to nearly 5%, Moody’s estimates.

What if the debt ceiling standoff drags on for weeks or months?

The federal government would have to slash outlays as funds run dry and credit rating agencies would downgrade Treasury’s debt. GDP would plunge by 4.6 percentage points, unemployment would jump to 8% and 7.8 million jobs would be lost, Moody’s estimates.

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