How the Fed will tackle the 'debt ceiling standoff' to avoid a 'potentially catastrophic' default: report

02 February 2023

As a rule, the U.S. Federal Reserve tries to stay out of partisan political battles. But in 2023, according to Axios reporter Neil Irwin, the Fed is likely to be speaking out as the United States’ “debt ceiling standoff” grows increasingly troublesome.

Countless economists have been warning that if the U.S. were to default on its debt obligations, that could set off a major financial crisis. And so far, debt ceiling talks between Democrats and Republicans haven’t been going well.

Far-right MAGA Republicans, especially members of the far-right House Freedom Caucus, are calling for major spending cuts; Democrats, including President Joe Biden and House Minority Leader Hakeem Jeffries, are stressing that big cuts to Social Security and Medicare shouldn’t be on the table. Liberal economist and New York Times columnist Paul Krugman has argued that Republicans are willing to risk a financial calamity in the hope of blackmailing Democrats into going along with Social Security and Medicare cuts.

Janet Yellen, U.S. Treasury secretary and former Fed chair, is urging Democrats and Republicans to come to some type of agreement sooner rather than later. A “global financial crisis,” according to Yellen, is a very real possibility. And Irwin expects Fed Chair Jerome Powell and Fed Vice Chair Lael Brainard to be speaking out as well in the weeks ahead.

In an article published by Axios on February 1, Irwin reports, “The debate itself is a fiscal issue between Congress and the executive branch. But if it turns into a crisis with a U.S. default or other extreme outcomes on the table, it would inevitably ensnare the Fed…. There are the risks to financial markets and the economy if there is a technical default on bonds, which economists across partisan lines see as potentially catastrophic.”

Two of the economic voices who have been sounding the alarm about a possible U.S. debt default, Irwin notes, are Roberto Perli and Benson Dunham of the investment bank Piper Sandler. In a recent research note, Perli and Dunham warned that “a default, even if brief, could have profound consequences” and said that “most likely, the Fed is exploring possible ways to mitigate the problem.”

Irwin explains, “The bottom line: The Fed doesn't like getting caught up in the middle of political disputes. But with the way things are going, it won't have much choice.”

Read Axios’ full report at this link.

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