The White House and Congressional leaders have been negotiating over raising the debt ceiling. Republicans want to tie the debt limit to restrictions on federal spending, something the Biden administration hasn't agreed to so far. Treasury Secretary Janet Yellen has said the nation could run out of borrowing authority by June 1st. WAMC's Jim Levulis spoke with Hugh Johnson, chairman and chief economist at Hugh Johnson Advisors, about the impacts of a possible default.
Johnson: First of all, you have to say a prayer that they will raise the ceiling. And we won't see that they won't raise the ceiling. In other words, the debt ceiling won't be raised. And then there's the possibility that the U.S. will default. And of course, lots of stuff will happen then, not the least of which is we might see an additional downgrade of the so-called rating on U.S. Treasury debt. That's not good, because the interest rate that the U.S. will pay in order to borrow money, which is to finance all of the spending it does, will be higher. And of course, if it's higher, that really means budget conditions get worse, not better. When budget conditions get worse, that only leads, inevitably leads to big cuts. And you have to worry about where those cuts are going to come. Obviously, people that get Social Security checks are gonna feel very uncomfortable. If you're in the military, if you're working for the government in any capacity, you have to worry if your job is going to continue, and whether you're going to get paid. So there's a lot of things that happen, that reduce spending. And when we talk about spending, we're talking about the U.S. economy. In other words, the U.S. economy would take a very, very significant hard hit if indeed, all of this transpires. In other words, we don't pass the debt ceiling or don't raise the debt ceiling. I've seen this played out before many times and it usually gets resolved and gets resolved favorably. I'm reasonably confident, let's just say guardedly confident, the same outcome will occur this time. But you never know for sure. The Congress is a different place these days.
Levulis: Yeah, you mentioned that the U.S. has been at this point many times before. Being at this point, being close to the debt ceiling needing to be raised. Are there economic impacts just from getting this close?
Johnson: Sure, there are economic impacts, because everybody's getting prepared for the possibility that the debt ceiling will not get raised. And so you know, the one very simple thing that might happen is you might see, hiring starts to slow down some. In other words, if you had plans to hire people, you might postpone those plans. And then you'll see that show up in an increase in first time claims for unemployment insurance, some people will actually lose their jobs. And we've seen that. We've seen that in the last couple of weeks, as companies effectively prepare for the possible outcome, which will not be a good outcome. There's not a lot of preparation going on, because I think everyone shares my view, and that is that they're sort of guardedly optimistic, that indeed, this might be the 11th hour deal, but that somewhere we’ll strike a deal. And we will pass an increase in the debt ceiling, even if it's only for a temporary period. In other words, say six months, or maybe a year.
Levulis: For those who might be preparing though slowing down hiring, maybe slowing down purchasing if you're a business looking at orders ahead. Once that deal is reached, though, you got to ramp back up, right?
Johnson: That's right. And so it's gets offset. And so some of us that are economists that are trying to forecast what's going to happen to the U.S. economy are saying, ‘Yeah, we see this, we see that some businesses are sort of cutting back or playing it on the safe side, the defensive side.’ But you're right, there's a bounce back after the ceiling is indeed passed. And really the effect is negligible on the U.S. economy. And again, this assumes that indeed, the ceiling is passed. But what remember, the one thing I said which is, this is a different Congress, a lot of different things going on now that I haven't seen in the past. It's very difficult to forecast the outcome, but I remain optimistic, but my fingers are tightly crossed.
Levulis: You spoke about cuts to federal spending. Part of this argument, the Republican House majority is basically saying, ‘Listen, having this debt, carrying this load is unsustainable. There needs to be federal spending cuts.’ What do you make of that argument that in the long run, you know, this debt does need to be scaled back?
Johnson: I think you've got to keep the two arguments distinct. And the one argument is should we increase the debt ceiling or assure everybody that borrows money or everybody that lends money to the U.S. that they're gonna get paid back. And that's increasing the debt ceiling, we're going to pay our debts and that's one issue. The second issue is the budget issue. The budget and the deficit issue. Should we take steps to reduce spending or make spending a little bit more consistent with what's going on in this world of hours generally, but the U.S. economy. And the answer is, of course, we should. Of course, we should have a more prudent or more sensible budget each year. And sometimes it isn't very sensible. That's true, whether we're talking about the federal government in Washington, it's true. Also, we're talking about New York State or any state for that matter. Prudence in the management of your affairs, your financial affairs, your budgets, is also very important. But these are two distinct topics. The president said they're distinct. And I think he's quite right that they're distinct. But it looks like we're going to have to put the two together in order to reach a deal, and make sure that the debt ceiling is increased.
Levulis: You mentioned this is a very different Congress than you've seen before. Wondering what you might make of the recent comments from Treasury Secretary Janet Yellen. She said she was speaking for herself, not for the Biden administration. But she recently said, ‘Hey, getting up to this point where Congress and the White House need to agree to raise the debt ceiling every so often is just not a good way to go about it. And something different needs to be done, some sort of different approach needs to be taken when it comes to this.’
Johnson: I think she's right. I have a lot of respect for Janet Yellen, I think she's very bright. She's very informed. She's very experienced, and she's right. You don't want to have to deal with this issue as frequently as we've had to deal with this issue. So I think a somewhat more permanent increase in the debt ceiling would be in order, quite frankly. But that that's not to take away from the importance that Republicans have actually mentioned so many times, and that is to have prudence in the management of your annual budgets. In other words, we have to really keep our spending in line and to try to take steps to ensure that the deficit as a percentage of gross domestic product, or our economy doesn't get too high. It is too high now. It has to be brought down, has to be brought down by good budgetary controls. But I think Janet Yellen is absolutely right, we have to find a more permanent solution so that we don't have to deal with this and waste a lot of time. We have to do this periodically. And it is, I don't want to say a complete waste of time, but I think generally speaking, it is.
Levulis: Moving to a different topic here, Hugh. Consumer prices in the U.S. rose again in April. Prices increased 0.4% from March to April, that's up from 0.1% rise from February to March. Looking at the year-over-year numbers though, prices climbed 4.9%, down slightly from March’s year-over-year increase. You mentioned at the end of 2022, that you believed the worst of inflation was behind us. Looking at these latest numbers, the numbers since then, do you still believe that?
Johnson: Oh, yeah, there's no question about it. You gotta go back to the March and the June period, June of 2022. And you'll see that on a year-over-year basis, and that's the number one way to look at this. On a year-over-year basis, the rate of inflation, consumer inflation, the consumer price index on a year-over-year basis has come down continuously since June of 2022. So we're making progress. The rate of inflation is coming down. I hear people talk about inflation being so high and so onerous, so difficult to deal with, and they’re right. The actual level of inflation is still as you just mentioned, near 5%. And that's, that's a pretty high number. It has to come down or it needs to get closer to that 2% target for the Federal Reserve. So it is high, but let's not take away from the fact that number one, it is coming down. It is coming down slowly. But it is clearly on a directional basis, it is coming down, inflation is declining.
Levulis: Given that inflation data, do you think the Federal Reserve should or will continue its interest rate hikes at its next meeting in June to continue fighting inflation? Or do you think it might take its foot off the brake?
Johnson: Yeah, your question is really well-founded. And it's a subject of real hot debate on Wall Street, and everywhere, quite frankly. And the number one thing is, it's not just inflation that the Federal Reserve is focused on or dealing with right now. Inflation is the number one issue and they do want to get inflation down from that 5% level down towards the 2% level. Maybe they accept something a little bit higher, 2.5%. So they do want to get inflation down. But there are lots of ways of doing it. One way to do it, the way that they've been dealing with it is to raise interest rates and that we all are aware of. A second way of looking at it now or thinking about it now is that credit conditions have changed. We had a bank crisis, we still have a bank crisis, we could talk a lot about that bank crisis. And the chances are that the bank crisis that we're working our way through, is likely to have an impact on lending, and therefore, on the economy. In other words, have an impact on slowing the economy and preserving the ongoing declines that we're seeing in the rate of inflation. The Federal Reserve right now will not raise interest rates, in my judgment, everybody has a different view, but in my judgment, will not raise interest rates at their June meeting and their July meeting, and they will try to monitor what's the impact of deteriorating credit conditions on the economy, and again, preserving the declines in the rate of inflation. I think that's what their decision will be. So if you were to ask me, ‘Have we seen the high rate by the Federal Reserve, has the Federal Reserve raised interest rates to the highest level they're going to raise in this cycle, I would say there's a really good chance of that.’ And of course, if we look a little bit beyond that, if indeed, credit conditions have the impact I sense they may have, if we have what we might call a hard landing, it may be that the next thing the Federal Reserve does is lower interest rates. But that's a long ways off, that's fourth quarter of this year, maybe first quarter of 2024. But I don't think they're going to raise rates at their June meeting. I don't think they're going to raise rates at the July meeting, I do think they're going to want to watch the impact of somewhat deteriorating credit conditions on the economy and inflation.
Levulis: I do want to get back to those bank failures and discuss that. I do want to move first to you mentioned a hard landing. Going back to when we last spoke at the end of 2022, you and many others mentioned that a recession or a contraction was likely in the first two quarters of 2023. We're speaking here the middle of May. Unless I missed something, it hasn't really hit. Has that soft landing occurred?
Johnson: Yeah, I think you're right, I think you'd have to say that I was wrong. Or many of us were wrong. Forecasting that we'd see a hard landing or declining, contracting gross domestic product. That's our scoreboard. We thought we'd see declining or contracting gross domestic product in the first two quarters. We still might see it in the second quarter. But I think you're really getting stretched out. It's probably been postponed to the maybe third and fourth quarters of 2023, maybe the first quarter of 2024. So I still think that we're gonna see a hard landing. But I mean a hard landing only in the sense that it's going to be if there's a recession, it would be very mild. Right now, what you'd have to do is to characterize the current state of the economy as yes, indeed, it is slowing. But it's slowing only to a soft landing, it's not contracting, it's just simply slowing. We've been wrong. We haven't seen that contraction in the economy or hard landing yet, I still think there's a really very strong chance that we will see that third-fourth quarter, maybe first quarter 2024, but nevertheless, we have not seen it yet. This is more or less a soft landing or the economy is only slowing it's not contracting.
Levulis: Moving to those bank failures that we mentioned before. Obviously, you've been in the game a while Hugh and you're a historian of the U.S. economy. Have you ever seen you know, anything like this, these so called, you know, modern bank runs? I guess, in a sense they're so rapid too?
Johnson: Well, I think the word rapid is really the key word here, Jim. And, you can go back to 1907, where we saw the first major bank runs the Knickerbocker trust and JP Morgan, entering the scene and helping to restore confidence in the banking system. But we've seen it continuously since that period of time. Continental Illinois Bank and Trust in 1984, something that was extremely similar. But I think what you just said was pretty darn important. And that is first of all, we're seeing a number of bank runs not just one or two, but a number of bank runs. And it's the rapidity, it's the speed with which they occur. Given, you know, the influence or the impact of social media, on the run itself, is probably somewhat different, and makes it extremely difficult to deal with and something that's extremely unfortunate. We're gonna have to learn how to deal with that in the future. But bank runs have been a part of our lives, our financial lives for a very, very long time. I think that the federal government in Washington in many ways is dealing with it. The FDIC, the Treasury Department, the Federal Reserve is dealing with it in the right way or effectively. But again, if they happen, the loss of confidence in a bank and occur overnight, and the run on the bank, the withdrawal of deposits can occur almost instantaneously because of the impact of social media on the whole process.
