Goldman Sachs says US debt could cause recession and market chaos

A full-blown debt ceiling crisis has the potential to bring the US economy to a halt, according to the chief economist at Goldman Sachs.

“If there were any doubt about the ability or willingness of the US government to make interest and major bill payments on time, it could have very, very adverse consequences,” said Jan Hatzius, chief economist at Goldman Sachsin an interview with CNN .

The United States hit the debt ceiling last week, forcing Treasury Secretary Janet Yellen to make accounting maneuvers to avoid going over the $31 trillion borrowing limit.

If Congress fails to raise the debt ceiling in time, Hatzius said investors will worry about defaulting on US Treasuries – which are “perhaps the most important asset in the global economy”.

Unlike many of its peers on Wall Street, Goldman Sachs is relatively bullish on the US economy, with Hatzius telling the CNN that America will likely avoid a recession until the 2024 presidential election.

However, a debt ceiling crisis is a major risk to this bullish outlook.

Asked whether a default or even a near default could cause a recession, Hatzius said yes.

“That’s the concern: that there’s turmoil in financial markets, a big tightening in financial conditions and that adds downward pressure on economic activity,” he said. “That is certainly the concern. It is not our expectation.”

Economists and US officials have already warned of dire consequences if the federal government exhausts the extraordinary measures being used to avoid a default.

Yellen told Christiane Amanpour of CNN , last week, that a “global financial crisis” could occur if Washington fails to make the payments. Economist Mark Zandi once described an actual default as “Financial Armageddon”.

“Ultimately, a solution will be found”

History shows that Congress eventually reaches an agreement to raise the debt ceiling, although there have been tightening situations in the past. In 2011, the United States had its perfect AAA credit rating downgraded by S&P Global Ratings as lawmakers struggled to find a middle ground. That episode helped trigger turmoil on Wall Street and hurt business confidence.

Wall Street and Washington leaders have warned that this debt ceiling negotiation could be especially challenging.

The historic dysfunction that preceded the election of Speaker of the House Kevin McCarthy earlier this month highlighted just how difficult it will be to get controversial legislation through the House of Representatives. Not only is McCarthy presiding over a narrow majority, but he’s also agreed to concessions that give the farthest corner of the GOP considerable clout.

Still, Goldman Sachs expects a debt ceiling deal to be reached eventually.

“We think finally a solution will be found,” said Hatzius. “These solutions are usually found at the last moment.”

Why Goldman Sachs Says a Recession Isn’t Coming

Assuming the United States overcomes the debt ceiling episode, Goldman Sachs is optimistic about the prospects for the US economy.

“We don’t expect a recession,” Hatzius said, noting that his firm sees a still significant 35% chance of a recession, compared with the Wall Street consensus of roughly 65%. “Our baseline is a soft landing.”

And yet, a wave of big companies have announced layoffs in recent weeks, including tech giants like Microsoft and Amazon, as well as financial firms like BlackRock and Goldman Sachs itself.

Goldman Sachs expects the hot job market to continue to cool, but only gradually. Hatzius doesn’t see the economy losing jobs on a monthly basis this year, though he said monthly payroll growth could dip below 100,000.

Inflation “clearly peaked”

This slowdown, combined with the real estate slowdown, the unfolding supply chain turmoil and the impact of the war in Ukraine should help bring inflation down without causing a slowdown.

Hatzius expects inflation to move from 9.1% last summer to the 2% to 3% range later this year or 2024.

“I think inflation has clearly peaked,” Hatzius said, adding he has “relatively high confidence” in the call.

The Goldman Sachs economist said his prediction is that the US economic expansion will continue until the 2024 presidential election, although that will not be easy.

“The further back in time you go… the greater the risk that something bad hits you along the way and you have a recession,” Hatzius said. “By the time you get to November 2024, it becomes a closer call.”