On May 16, 2011, the U.S. government hit its debt limit of $14.3 trillion, or in other words, maxed out its credit card. Consumers and businesses alike have been warned by some experts of a potential economic Armageddon if the U.S. government doesn't come up with a solution-and fast. People generally understand the concept of the U.S. debt crisis and its relationship to government spending. However, many may not necessarily understand the intricacies of how the U.S. debt crisis will really affect consumers, businesses, franchises and the economy at large.
The Debt Ceiling: What is it?
The U.S. debt ceiling is essentially the maximum amount of debt the U.S. can borrow. Title 31 of the U.S. Code is the law that specifies the maximum amount of both principal and interest the U.S. can borrow. (It also bestows Congressional authority to change the amount through the congressional budget process.)
The U.S. recently hit this limit thereby stopping the federal government from borrowing any more money. Every year the U.S. needs approximately $1 trillion dollars to meet its obligations, however, yearly revenues are not enough to cover that amount. The U.S. simply needs more money that it makes. So the country must make a decision-cut spending in government expenditures to lower the amount that must be borrowed, raise taxes to generate more revenue, increase the debt limit or some variation of some or all of the above. That is exactly what Congress is debating right now.
Treasury Secretary Tim Geithner has given Congress until August 2, 2011, to come up with a plan. Investments in federal retirement funds have been temporarily suspended in order to free up space for imperative financial obligations.
However, if Congress fails to come up with a solution to the nation's debt crisis by the August deadline, some financial experts say that the U.S. financial system could suffer catastrophic failure. Dire consequences could result for both U.S. consumers and small businesses all across the country. But how?
The Affects of the Debt Crisis
Consumers who default on a loan or fail to pay their credit card bills will see a decrease in their credit rating. Much like consumers, the U.S. government will also see a decrease in its creditworthiness if it defaults on its loan obligations. Standard and Poor, for example-one of the top bond rating agencies-has already threatened to downgrade the current gold-plated, triple-A-rating the U.S. currently holds if it fails to pay its debts. So what happens if the U.S. credit rating decreases?
Presently, U.S, treasuries serve as a benchmark for interest rates and as the most highly regarded safe harbor for invested funds. The U.S. dollar is the currency most utilized in international financial transactions and currently remains the world's main reserve currency. If the U.S. were to default on its debt payments, its creditworthiness would decrease and the value of the dollar with it. The effective interest rate at which the U.S. can borrow would rise. All borrowing costs would go up in response, acting as a dragging anchor on a world economy whose recovery has already become anemic.
What This Means for Small Businesses, Including Franchise Operators
Commercial and personal borrowing costs, including bank interest rates and credit card interest rates, could dramatically increase for both consumers and businesses alike. Since many small companies rely on short and long-term loans to operate, they would either no longer be able to secure the loans they need to operate or acquire loans with higher interest rates that would dramatically affect their bottom line. Businesses that can't operate shut down.
Since most franchised businesses are small businesses, they would be affected by this. Presently, over 800,000 franchised businesses, including New York franchises, operate in the U.S. This accounts for nearly 18 million jobs. Franchise operators would suffer due to their inability to secure necessary business loans. Additionally, the debt crisis would stifle new, potential operators from opening up new franchises; a huge impact considering the International Franchise Association reports franchise operations create out of every eight new jobs in the U.S.
A shutdown of small businesses and franchise operations would be devastating to the U.S. economy. In 2009, there were 27.5 million businesses in the United States, with small business representing 99.9 percent of this total. Small businesses employ half of all U.S. workers. Those that would shut down as a consequence of a U.S. default would put thousands of employees out of work; forcing the unemployed to in turn default on their own obligations, like mortgage and car payments, and send the economy into an even further economic downturn.
While politicians debate the merits of the debt ceiling, one thing is clear-a decision must be made, and soon.
The clock is ticking. Only days are left for Congress to come up with a plan on how the United States will continue to pay its bills-raise the debt ceiling, raise taxes, cut spending or some combination of those.
For questions or additional information about Einbinder & Dunn's legal services, please contact Einbinder & Dunn by clicking here to fill out a contact form or by calling 866-490-4909 or 212-391-9500 to speak with one of the firm's partners.
On Monday, April 16th, 2012, Julie Lusthaus was interviewed in a 30 minute segment about Franchising on WVOX 1460 AM radio by Marsha Gordon, President & CEO of The Business Council of Westchester.
