Debt ceiling: Getting an 'appetite for compromise will be very hard without a crisis,' reporter says

The Financial Times Editorial Board Chair and U.S. Editor-at-Large Gillian Tett joins Yahoo Finance Live to discuss the potential U.S. debt default if a decision isn't made by Congress and the impact this delay may have on the economy amid a looming recession.

Video transcript

JULIE HYMAN: The Treasury Department has warned the government could run out of money to pay its bills as soon as June 1. President Biden is reportedly planning to meet with top congressional leaders Tuesday after discussions set for last week were postponed. The US has never defaulted on its debts, and doing so would have an alarming impact on the US economy. That seems to be something that everybody agrees on. Moody's Analytics estimates that stock prices would fall by almost a fifth and would wipe out $10 trillion in household wealth in the event of an actual default.

For more on this, we turn to Gillian Tett, the "Financial Times" Editorial Board Chair and Editor-at-Large of the US. Gillian, thank you so much for being here. There are a lot of dire warnings out here. And yet, as we talked about earlier in the show with a market strategist, markets don't tend to react until late in the game. And then they sort of force the government's hand. Is that what's going to need to happen once again this time?

GILLIAN TETT: Yeah, it's very frustrating indeed because history shows that the only thing that can break through political gridlock and get Congress to back unpopular decisions is basically a markets crisis, a full-blown markets crisis. We saw that in 2008 with the financial crisis and the so-called TARP measures. So I suspect it probably will take a full-blown markets crisis to actually bring the Republicans and Democrats to come together to do what is the obvious solution, which is to raise the debt ceiling but to create some kind of fiscal commission to look at the longer-term fiscal health of America.

There's going to have to be compromises around tax rises, around spending cuts of some sort. You can't get to any kind of fiscal health or sustainability without some difficult decisions. But unfortunately, getting the kind of appetite for compromise is going to be very hard without a crisis. And that's the last thing that investors or the Federal Reserve want to see.

BRAD SMITH: What type of impact could this net out for investors? I mean, if we were to see that, if we were to see not just moving past the X date but then having even more of the-- I've said rigmarole in the past in Congress-- but the theater that's taking place in Washington, DC, that gets to this point where parties are just blame shifting and at the end of the day, nothing is actually getting solved.

GILLIAN TETT: Well, what we should say first, upfront, is that Biden has come out in the last few minutes with a statement saying that he's actually quite optimistic about the meeting tomorrow that's happening between himself and the Republican leaders. The fact that the meeting was canceled on Friday has given some hope to the markets that actually there are serious discussions going on between the staffers. So maybe-- never say never. Maybe something will come out tomorrow that actually proves what I'm saying to be wrong.

But one of the things that's been very unhelpful has been the fact that the former president, Donald Trump, came out last week in the CNN town hall and essentially said to the Republicans go ahead and let the US default if there aren't radical spending cuts. And what that means is that for Kevin McCarthy, speaker, it's going to be that much harder to try and corral people like Marjorie Taylor Greene away from their very radical positions and get a deal done.

Now, if there is no deal done, if we do go towards default, there's three things that can happen other than default. The Treasury could essentially use a gimmick like issuing a trillion-dollar coin itself to the Fed to avoid default. It could simply use some of the constitutional powers it have and just ignore the debt limit. Or it could also prioritize payments to make sure it keeps paying the interest on the bonds but stops other payments. So there are other options available to Janet Yellen.

And many people and the Democrats right now are saying that they should be used. But they're all of quite questionable legal standing. Janet Yellen herself has indicated she doesn't want to use them. And so if we do get towards that X date, I think you're going to see quite a sell-off in the markets and quite a rise in borrowing costs, and that's definitely going to hit investors of all stripes, not to mention mortgage borrowers.

JULIE HYMAN: Gillian, I have sort of a bigger picture philosophical question, I guess, about the national debt. Why is it a problem? In other words, like, the US, in any practical terms, it doesn't matter how much the US borrows, right, unless at some distant point in the future it loses credibility in international markets. That's happened in other countries; cases, right, certainly in some European countries. But is that a realistic threat at any point in the next hundreds of years? I don't know.

GILLIAN TETT: Well, there's two ways that the debt is a problem. The first is that, essentially, the interest payments on debt are going up dramatically right now because of the rising interest rates. I mean, during the last period of 2008, the interest rate payments on debt were incredibly low, in fact, remained low and stable even though the amount of deficit actually tripled-- or debt tripled overall. And that was because, essentially, the lower interest rates, the smaller the interest payments.

What's happening now is that as the rates rise, interest payments of the debt servicing costs are exploding to a point where they're eating up a significant chunk of the budget and essentially displacing other items on the budget that the government would like to pay for. So that's one problem. The second problem-- and by the way, that problem is serious unless you believe that interest rates are going to go crashing back down again to almost zero, and it's very hard to make that case right now.

The other problem, of course, is that if, at some point, the people who are buying debt stop buying it because they fear that there could be a default, then you end up with a very nasty scenario, and essentially a self-reinforcing vicious cycle. At the moment, there isn't much sign of that. But what you have to remember is two things.

Firstly, a very big buyer of debt in the last 10 years has been the Federal Reserve. And, of course, that's going to be ending if the Fed is serious about embarking on quantitative tightening instead of quantitative easing. And secondly, the behavior of foreign investors right now is quite uncertain.

What you've seen recently is that Chinese purchases of US Treasury bonds has fallen quite steadily. Japanese purchases have been fairly stable, but they could fall also going forward. And groups like the Middle East have been buying lots of treasuries, but somewhere like Saudi Arabia is starting to embark on a massive domestic investment plan, which means that the petrodollars may not be recycled to quite the same degree going forward.

So it's entirely possible to imagine a world where the demand for US treasuries begins to taper off. And if the US keeps issuing more and more treasuries to basically increase the debt, you could again see rising market interest rates, more pressure, more questions about sustainability, and that would create problems too. And last but not least, there's also the issue that high government debts often crowd out private investment, and that's bad for innovation and dynamism.

BRAD SMITH: Gillian Tett, "Financial Times" editor-at-large. Gillian, always a pleasure to get the thorough analysis and insight here, especially as these are very much moving conversations and parts, even as you had brought up the Biden administration's latest announcement this morning here. We're going to be watching closely for where the football gets moved forward here a little bit. Thanks so much, Gillian. Coming up--

GILLIAN TETT: Take a sweepstake. I'm not too optimistic. We'll see. Thank you.

BRAD SMITH: Thanks so much.