U.S. Default Seen as Catastrophic

Failure to pay government debt could hit stock markets worldwide and inflate borrowing costs.

Anyone who remembers the collapse of Lehman Brothers Holdings Inc. little more than five years ago knows what a global financial disaster is. A U.S. government default, just weeks away if Congress fails to raise the debt ceiling as it now threatens to do, will be an economic calamity like none the world has ever seen.

Failure by the world’s largest borrower to pay its debt -- unprecedented in modern history -- will devastate stock markets from Brazil to Zurich, halt a $5 trillion lending mechanism for investors who rely on Treasuries, blow up borrowing costs for billions of people and companies, ravage the dollar and throw the U.S. and world economies into a recession that probably would become a depression. Among the dozens of money managers, economists, bankers, traders and former government officials interviewed for this story, few view a U.S. default as anything but a financial apocalypse.

‘Nuclear Bombs’

“It should be like nuclear bombs, basically too horrible to use,” Buffett, 83, said in an interview published by Fortune magazine last week.

Historical Lessons

While none of the people interviewed for this story expect the world’s largest economy to default this time either, most say the chances of it happening now are higher than in the past.

Insufficient Funds

Labeled technical or not, a default is still a default, said Jim Grant, founder of Grant’s Interest Rate Observer.

Rating Downgrade

Some point to Standard & Poor’s 2011 downgrade of the U.S. credit rating, which led to an increase in Treasury prices, not a drop. Even after the rating was lowered by one level to AA+ from AAA, investors continued buying U.S. government bonds as they flocked to safety, according to Joe Davis, chief economist at Vanguard Group Inc.

Capital Shortfalls

Higher borrowing costs could slow the housing recovery. If 30-year mortgage rates climbed to 6.5 percent from 4.5 percent, a borrower who can now afford the monthly payment on a $200,000 loan would only be able to take on about $160,000 of debt when buying a property, forcing down sale prices.

War Rooms

While a short-lived default might be fixed without major damage to the global economy, drawing a line between short and long isn’t easy, according to Evercore’s Altman.

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