Could Debt Ceiling Default Crush Small Businesses?

If the U.S. fails to raise the debt ceiling and defaults on its debt, it's fair to say it would be catastrophic on a number of levels. Before we get into why, it's worth pointing out that it is extremely unlikely. While the clock is ticking on the negotiations, ultimately, no politician wants the economy to crash. Most observers believe lawmakers will reach an agreement -- partly because the alternative is too drastic to even consider.

A default would have serious consequences for every American. Not only would it mean people lose confidence in the U.S. and its ability to pay its bills, we could also see a stock market crash and delays in a host of federal payments. Read on to find out what it might mean for small business owners.

Why small business owners are concerned about the debt negotiations

Small businesses, who've already weathered the pandemic storm and survived the horrors of high inflation and dramatic interest rate increases, may wonder if they can take much more. A recent Goldman Sachs survey showed that 65% of small business owners said they would be negatively affected if Congress does not raise the debt ceiling. Here are some of the ways they'd be impacted.

1. It could trigger a recession

Mark Zandi, Chief Economist of Moody's Analytics, presented the firm's simulations of a default to the Senate in March. Not only would failure to increase the debt ceiling cause a recession, he said the U.S. would face an economic downturn comparable to the 2008 financial crisis. Zandi predicted GDP would fall by over 4% and more than 7 million jobs would be wiped out. "Stock prices would fall by almost a fifth at the worst of the selloff, wiping out $10 trillion in household wealth," he warned.

He also highlighted the damage last minute negotiations could cause. "The brinkmanship is also unnerving for businesses, who will pull back on investment and hiring, and financial institutions, who will quickly turn more circumspect about extending credit to households and businesses," he said.

2. It would make credit even harder to access

"The ability of households and businesses, especially small businesses, to borrow through the private sector to offset this economic pain would also be compromised," said analysis from the White House. Loss of confidence in the U.S. economy could result in higher interest rates and tightening credit standards for individuals and businesses.

Small business owners already know that credit can be hard to access. It can take time to build a business credit history and meet the criteria for a small business loan. The Goldman Sachs survey showed that 77% of small business owners are worried about access to capital. This marks a dramatic turn around from a year ago, when 77% of owners were optimistic on this front.

According to biz2credit, big banks approved just 13.5% of small business loans in April 2023. If you're struggling to get a loan approved, a business credit card might be an option to borrow, particularly if you have good personal credit. The ideal scenario is to pay off your balance every month as credit cards can be an expensive way to borrow. That said, they can be useful if you're struggling with cash flow. Plus, if you pay your bills on time, they can also help you build a business credit history.

3. Many businesses could face cash flow problems

If the government runs out of ready cash, it would have to drastically cut spending. It would likely also have to prioritize which bills it pays and which it doesn't. For small businesses that rely on government contracts, this could be disastrous. As The Washington Post points out, that might be a construction firm with deals to build government buildings, or a company with many customers on food benefits. The ramifications of missed federal payments and canceled contracts would quickly be felt throughout the economy.

Readying your business

There is no easy way to prepare for the unthinkable, particularly if you're already feeling the strain of recent years. The most important thing is to know how you'll handle any delayed payments, especially if you rely on federal contracts. For this and other reasons, the more cash you can put aside to tide you through, the better. If you don't have a business emergency fund, make this a priority.

A laser focus on your cash flow will be essential in the coming weeks. Try to map out what might happen in a worst-case scenario and talk to your customers and clients about how you might handle any potential issues. We're well into the world of "coulds" and "maybes" when we talk about the debt ceiling, because the situation is unprecedented. The U.S. has never defaulted on its debt and hopefully never will. However, right now, it isn't impossible, so it's worth having a plan in place.