Double-Barreled Economic Threat Puts Congress on Edge

WASHINGTON — In 2008, an imminent collapse of the banking system consumed Congress before lawmakers delivered a bailout. Three years later, a debt limit crisis enveloped Washington and led to a series of spending cuts after a dangerous brush with default and a first-ever downgrade in the nation’s credit rating.

Now unease about the banking system’s stability and a stalemate over raising the debt limit are engulfing the capital simultaneously, ratcheting up an already high level of financial anxiety as two economic challenges Congress has experienced before become intertwined.

“The stakes are exceptionally high when you are dealing with what amounts to a one-two punch of economic peril,” said Senator Ron Wyden, Democrat of Oregon and chairman of the Senate Finance Committee. “The messages that you send to the economy and the public with respect to banking and the full faith and credit of the United States — it doesn’t get more consequential than that.”

Republicans and Democrats acknowledge it is a scary case of déjà vu times two. But they diverge sharply on how recent bank failures — and uncertainty over how Congress should respond to them, if at all — will influence the debt limit fight later this summer.

At their just-concluded retreat in Florida, House Republicans took the line that shakiness in the banking system should strengthen their hand in the coming showdown over the debt limit. They argued that a Democrat-led spending spree spurred inflation, forced up interest rates and led to a precarious situation for all but the largest banks. The clear answer, to them, remains deep spending cuts, and they say they will still insist on cuts before making any move to raise the debt ceiling.

“That should wake everybody up,” Speaker Kevin McCarthy, Republican of California, told reporters on Tuesday when asked about the intersection of banking stability and the debt limit. “Why are we having a crisis? Because the government spent too much and created inflation.”

“I believe to get to a debt ceiling limit, you have to be spending less than we spent before,” he said.

But Jerome H. Powell, the Fed chair, on Wednesday disputed the notion that spending remained the chief driver of inflation.

“Spending was of course tremendously high during the pandemic,” he said at a news conference announcing an increase in interest rates. “As pandemic programs rolled off, spending actually came down.”

“Fiscal impulse is actually not what’s driving inflation right now,” he said. “It was at the beginning perhaps, but that’s not the story right now.”

Democrats say House Republicans are doing the exact opposite of what is required at a critical moment, even as the Fed offers assurances about the soundness of the banking system. They say the fallout from any banking instability should persuade Republicans that the last thing the economy needs is the specter of a default from a failure to raise the debt limit, which is projected to be reached as early as July without action by Congress.

Senator Chuck Schumer, Democrat of New York and the majority leader, on Wednesday assailed the Republican stance as “reckless and truly clueless.”

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“Instead of calling for calm, House Republicans are sowing chaos by threatening a default at a time when banks need stability,” he said. “The right answer is for Republicans in the House to stop saber-rattling, drop the hostage-taking and brinkmanship and work together, work in a bipartisan way, to extend the debt ceiling without strings attached.”

Other Democrats shared those sentiments, dismissing calls from some Republicans to prioritize federal payments should Congress fail to agree on a debt-limit increase. They say that approach is unworkable and default by another name.

“The banking crisis highlights the importance of paying our bills on time,” said Senator Chris Van Hollen, Democrat of Maryland and a member of the Banking Committee. “We don’t want to create any more uncertainty in the financial markets and the economy. Because of what happened with the banks, it is more important than ever that Republicans don’t allow us to get close to the cliff.”

The 2008 and 2011 economic crises were earthshaking events on Capitol Hill. In the fall of 2008, in response to warnings from Treasury and Fed officials that the nation’s banks were about go under, Congress dove into a titanic, market-rattling debate over the $700 billion Troubled Asset Relief Program, ultimately approving a historic government intervention in the economy.

Three years later, a new House Republican majority and the Obama administration took their clash over spending to the brink of financial ruin, bringing the country close to a federal default before striking a last-minute deal on spending cuts cleared the way for an increase in the debt ceiling, averting disaster.

Lawmakers say they drew many lessons from those painful experiences. But the two parties did not draw the same ones.

For Democrats, the 2011 experience hardened their opposition to negotiating over increasing the debt limit, confirming their belief that it should be raised without conditions since it is simply making good on spending already approved by Congress, with the support of members of both political parties. Republicans, by contrast, say that same experience persuaded them that the only way to exact real spending cuts is to use the threat of a federal debt default as leverage.

The clashing approaches now have the parties again dug in over increasing the debt limit. Scant progress has been made toward finding a resolution that could avoid undermining the economy, even as the banking system exhibits signs of stress.

Some Republicans say that they see the high-profile failure of the Silicon Valley Bank as an isolated incident, in contrast to the widespread fear of a total banking collapse in 2008 before Congress intervened.

“This is not ’08 and ’09 when the banking industry was crazy on their asset side,” said Senator Mike Braun, Republican of Indiana. “That side of the economy I think learned its lesson.”

He and other Republicans said they need to continue to push for spending reductions as part of any agreement to raise the debt limit and called on Democrats and President Biden to drop their refusal to negotiate.

“This is not just a one-way street,” said Senator John Cornyn, Republican of Texas. “Hopefully Biden and the administration will get real when it comes to negotiating something, rather than saying, ‘I am not going to negotiate anything.’”

In an appearance on Tuesday before the American Bankers Association, Treasury Secretary Janet L. Yellen said that the president was willing to talk federal spending with Republicans, just not with the debt limit sword held at his throat.

“Having this conversation needs to happen over time and in the appropriations process and not through the threat of forcing a default,” she told members of the group. “It is essential that Congress raise the debt ceiling and that they do it promptly in order not to inflict a truly catastrophic wound on our economy and our financial system.”

Republicans and Democrats credit consumer confidence for holding off economic calamity and so far preventing Congress from entering the crisis atmosphere that permeated both 2008 and 2011. But there is no guarantee that confidence can be maintained, and lawmakers warn of the possibility of cascading events should the banking system become viewed as unstable or the debt limit standoff go on too long.

“It has,” warned Senator Richard Blumenthal, Democrat of Connecticut, “the makings of a perfect storm.”

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