“The financial ramifications would be horrific,” worse than what followed the 2008 collapse of Lehman Brothers Holdings Inc., he said. The U.S. stock market lost almost half its value in the five months following Lehman’s failure and the country plunged into its worst recession since the Great Depression.

Investor Reaction

Investors in financial markets are starting to take notice as the deadline approaches. The Standard & Poor’s 500 Index slipped 1.2 percent to 1,655.45 at 4 p.m. in New York yesterday for its biggest drop since August.

Rates on Treasury bills due on Oct. 31 climbed to 0.34 percent from zero as recently as Sept. 19. That compares with a 0.11 percent rate for bills maturing on Oct. 10.

Lou Crandall, chief economist at Wrightson ICAP LLC, said the yields would be significantly higher if investors feared a genuine default. Instead, he said, what they’re concerned about is a deferred interest payment by the Treasury.

“Bill yields are close to zero for everything except stuff that might get caught up in the operational headaches of a delayed payment,” said Crandall, whose Jersey City, New Jersey- based company is a unit of ICAP Plc, the world’s largest broker of financial transactions between banks. “There is no default risk. There is a liquidity risk.”

Slump Certain

If the government does avoid default, that wouldn’t mean the economy would escape a recession, said Michael Feroli, chief U.S. economist for JPMorgan Chase & Co. in New York. He said a slump would be certain to follow if the choice is between a default or cutting other outlays to avoid one.

“In the first case, we’d have a recession and a financial crisis,” said Feroli, a former researcher at the Federal Reserve. “In the second case, we’d have a recession.”

Even if debt payments are made, the government would have to immediately eliminate its deficit and balance its budget because it wouldn’t be able to borrow more, Crandall said. The nonpartisan CBO has estimated that the deficit was $642 billion, or 4 percent of gross domestic product, for the year that ended on Sept. 30.