The US government is currently engaged in one of the most expensive cockfighting games in history.
If Democrats and Republicans don’t agree to allow the US to borrow more – or, in their words, raise the debt ceiling – then the world’s largest economy will default on $31.4 billion in debt. (25 billion pounds).
They must reach an agreement by the sinister “X-day” on June 1. Otherwise, Prime Minister Jeremy Hunt has warned the impact would be “absolutely devastating”.
How does this effect the economy and you?
First of all, not every expert the GIN interviewed thinks the US will default. However, if it does happen, “it will make the global financial crisis feel like a tea party,” said Simon French, chief economist at investment bank Panmure Gordon, referring to the near collapse. of the global banking industry in 2008. If the United States doesn’t raise its debt ceiling, it won’t be able to borrow more money — and it will quickly run out of money to pay government subsidies and other obligations.
Watch: Debt Ceiling Explained – in less than 90 seconds
“It will stop giving social benefits and support to people, which will affect their ability to spend and pay their bills,” said Russ Mold, chief investment officer at AJ Bell. “So that’s going to affect the economy.”
The White House Council of Economic Advisers estimates that if the government fails to reach an agreement on the debt ceiling for a long time, the economy could shrink as much as 6.1%. Economist Mohamed El-Erian, president of Queens’ College, University of Cambridge, said a default “has the potential to push the US into a recession”.
This will have major implications for the rest of the world, including the UK, which sees the US as an important trading partner. “The United States is one of the largest trading partners in the world. They will buy less products from the rest of the world,” he said. Mr El-Erian doesn’t think a recession in the US will lead to a recession in the UK, but Mr French is “100%” sure it will. Mortgage rates could rise.
In addition to hurting trade, Mr French said a US default would lead to higher UK mortgage prices and higher UK unemployment. “It will be a cataclysm,” he said.
Why do problems in the US make mortgages more expensive than in the UK?
Money is borrow when the government issue bonds or IOU. it is called treasury bonds in the US and also call gilt in the UK. An investor charges the government interest if he buys treasury bonds or sows.
If the US government defaults or doesn’t even pay interest, ‘investors will look at that and say’ well, if the US can default, then what’s to stop the UK from defaulting? ‘” Mr. French said. Investors can then demand higher interest rates to buy UK government debt.
“The interest rate on debt — whether it’s your mortgage or your government debt — is adjusted by perceived risk, and it’s clear [US default] would be a major risk event and so any debt will become more expensive overnight,” he said.
Price may go up
The US dollar is the world’s reserve currency. This means a long list of vital commodities such as oil, used to make gasoline and wheat, which is ground into flour to make bread, priced in dollars.
In the event of a US government default, the value of the dollar would plummet.
That sounds like good news to people outside the US, but it means that commodity investors “don’t know how to value things,” French said “What you would have with a U.S. default is investors suddenly panic and think, ‘Is Japan next? Is the UK next? Germany next? What else did They do wrong,'” he said.
“We suddenly had to revalue everything, and economically, that’s the risk premium. You get the risk premium added to the price and so the bread becomes more expensive.”
If food and fuel become more expensive, it will increase the cost of living for millions of people.
Your pension may be affected
According to Mr. Mold, the US accounts for 60% of the value of the global stock market. “So it’s likely that people have exposure to US stocks in their pensions, whether they know it or not,” he said.
And the stock market could react badly to a US default.
Not bad news
In 2011, Democrats and Republicans remained deadlocked on the debt ceiling until hours before a possible default. The US stock market plunged. But the fear was short-lived, and the stock recovered from the sharp drop.
Mr Mold believes that will be the case this time around.
Although people currently on pensions could be affected, he said, “if you drag them down somewhere, you have time to make up that shortfall”.
