Exclusive: Goldman Sachs: Even a near-default on US debt could spark a recession and market mayhem

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New York
CNN
 — 

A full-blown debt ceiling crisis has the potential to stop the US economy in its tracks, according to the top economist at Goldman Sachs.

“If there were any doubt about the US government’s ability or willingness to make interest and principal payments on time, that could have very, very adverse consequences,” Jan Hatzius, the chief economist at Goldman Sachs, told CNN in an interview.

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

If Congress fails to lift the debt ceiling in time, Hatzius said investors will worry there is a chance of a missed payment on US Treasuries – which are “maybe 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 CNN that America will likely avoid a recession through the 2024 presidential election.

However, a debt ceiling crisis is a key risk to that optimistic outlook.

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

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

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

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

History shows Congress eventually reaches a deal to raise the debt ceiling, although there have been close calls 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 compromise. That episode helped set off turbulence on Wall Street and dented business confidence.

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

The historic dysfunction that preceded House Speaker Kevin McCarthy’s election earlier this month underscored how hard it will be to get contentious legislation through the House of Representative. Not only is McCarthy presiding over a razor-thin majority, but he agreed to concessions that give the most extreme corner of the GOP considerable influence.

Still, Goldman Sachs is expecting a deal on the debt ceiling will be reached, eventually.

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

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

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

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

Goldman Sachs expects the red-hot labor market will continue to cool down, but only gradually. Hatzius does not see the economy losing jobs on a monthly basis at all this year, though he said monthly payroll growth could slip below 100,000.

That deceleration, combined with the housing slowdown, unwinding of supply chain turmoil and impact from the war in Ukraine should help bring down inflation without causing a downturn.

Hatzius expects inflation will go from 9.1% last summer to the 2% to 3% range by late this year or 2024.

“I think inflation has pretty clearly peaked,” Hatzius said, adding that he has “relatively high confidence” on that call.

The Goldman Sachs economist said his forecast is for the US economic expansion to continue through the 2024 presidential election, though that’s not a slam-dunk.

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

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