September 24, 2023

Congress is moving debt-ceiling talks uncomfortably close to a vague but fast-approaching deadline, which is being closely monitored by markets. It’s not clear exactly when that deadline will come, or if it does, what exactly will happen. But from Wall Street to Washington, there are fears that the fallout could be far worse.

“The debt ceiling is a doomsday machine and must be dismantled,” David Kelly, chief global strategist for the asset-management business at JPMorgan Chase & Co., the nation’s largest bank, said in a phone interview.

Too Economist Mark Zandi warned, ‘This is a particularly inappropriate time to have a political debate on the debt limit.’

The contravention itself was created by federal lawmakers during World War I, which gave the US Treasury the ability to issue bonds without congressional approval, but only if the federal government’s total debt remained under a specified threshold. Congress has raised the debt ceiling dozens of times since then, but the maneuvers have been fraught in recent years by deep political divisions in Washington and across the country.

Treasury Secretary Janet Yellen has warned that the US could hit its $31.4 trillion debt limit by June 1, which would mean the US government could potentially run out of cash if Congress fails to lift the limit. Members of the Republican and Democratic parties are fighting over including spending cuts as a condition for raising the borrowing limit, putting the Treasury Department in a position to potentially prioritize whether it continues to make payments if a deal is reached. is not done on time.

President Joe Biden has insisted for months that Congress send him a “clean” debt-limit increase and lays out his arguments for reducing federal spending as part of the annual budget process.

, ‘They’ve got the wrong hostage here. If you are going to mortgage something, mortgage the entire budget, not the loan limit.’ ,

– David Kelly, JP Morgan

But what exactly happens if the credit limit is breached? It’s not clear exactly when or how this might happen. Experts say the government may not actually default on its debts, but they are also concerned about the immediate negative economic impact and the long-term consequences for America’s economic strength. The damage that the doomsday machine could do is difficult to uncover because it has never been turned off.

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“I don’t like this game of chicken because they keep getting pushed closer and closer to the point where one miscalculation, or one piece of stupidity, can put you in a very serious position,” said JPMorgan’s Kelly. They hope that in such a situation the US will not actually default on its debts.

For Kelly, the underlying problem is that the debt ceiling is being used by politicians to demand concessions or, alternatively, “we will blow up the financial world.”

“They’ve got the wrong hostage here,” Kelly said. “If you’re going to mortgage something, mortgage the overall budget, not the loan limit.”

Trump on debt ceiling: GOP should force government to default if Democrats won’t cut spending ‘massively’

The deadline is hard to determine with certainty, so it is commonly referred to as the X-Date. Concerns that its arrival is imminent have emerged in some corners of the market, such as trading one-month Treasury TMUBMUSD01M,
and credit-default swaps. Treasury bills maturing in one month sold off recently, while a recent widening in the credit-default-swap spread linked to US sovereign debt signaled that it is more expensive to insure against a country’s default.

“America will not default on its debt,” Bob Elliott, co-founder, CEO and chief investment officer of Unlimited Funds, said in a phone interview. “The Treasury will do everything in its power to ensure that this does not happen.”

While Yellen has said that the US could run short of funds by June 1 if the debt ceiling is not raised, according to Elliott, that deadline could be pushed further.

Although possible, the chances of reaching the debt limit on June 1 are “very slim”, he said. The Treasury could make it through to mid-June, at which point it would receive quarterly tax payments that could see it through the end of the month, when it could unlock more than $100 billion in “extraordinary measures” that could potentially x- pushes the The date for the second half of July, Elliott said.

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Meanwhile, Yellen has expressed a sense of urgency for Congress to act.

Financial markets will be in “uncharted territory” if the Treasury has to miss some of its payments due to the debt limit, and it’s not hard to imagine a negative reaction, Alec Phillips, chief political economist at Goldman Sachs Group, said by phone. . Interview.

But the economic consequences of failed payments, including Social Security benefits or sectors such as military and federal employees, represent a “greater risk.”

For the most part, Treasury payments beyond debt obligations are “ultimately” going to individuals who use them to consume goods and services and “to pay their own bills,” Phillips said. . The economy is driven in large part by consumer spending. He said missed payments by the Treasury would risk “inflicting some real economic damage”, the consequences of which would start to build up after a few days.

The US economy is slowing down with the Commerce Department Estimated end of April That GDP expanded at an annualized 1.1% pace in the first quarter. It won’t take long to push America into recession, Phillips said.

“It would be a self-inflicted economic issue,” he said of the consequences that would arise from a breach of the debt-ceiling. But that means “there’s a limit to how bad it gets,” in his view. “If it gets screwed, someone will fix it,” he said.


Failure to make interest payments due to the debt limit would be “catastrophic” because Treasuries, the benchmark in financial markets, are the “risk-free rate,” according to Noel Dixon, global macro strategist at State Street Global Markets.

$24 trillion treasury market Backed by the full faith and credit of the US Government.

“If Treasury is put into question,” Dixon said in a phone interview, “I don’t see how the system can function, frankly.”

The US government bond market is the “most liquid and efficient fixed-income market” in the world, with an average of $590 billion in US Treasury bonds traded in 2022. coalition greenwich report Commissioned by SIFMA. This year, on March 13, “a record $1.49 trillion in US Treasury bonds were traded in a single day.”

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Treasury holders include pension funds, mutual funds, banking institutions, individuals, state and local governments and insurance companies, as well as foreign governments, the report shows. “Large governments and individual investors around the world view US government debt as a sure thing, therefore positioning US Treasury rates as the risk-free rate,” the Coalition Greenwich said in the report.

Dixon said Treasuries are also held as collateral in repurchases, known as “repo” agreements, which are used for short-term borrowing. He said a situation in which the value of Treasuries was losing value due to default could present a “nightmare scenario” in the repo market. “Credit can seize up significantly.”

Repo-market participants include financial institutions such as banks, insurance companies, mutual funds, pension funds, and hedge funds. SIFMA Report Last year.

The ripple effect of a default on Treasuries could also include the drying up of corporate credit lines, Dixon said. “You will have overwhelming possession of the system.”

But Dixon is not expecting to miss any interest payments from the Treasury because of the debt ceiling. “Even though we have hiccups, I don’t think they think we’re going to lapse in the end,” he said. “The thinking is,” Dixon said, “we’ll pay off our debt one way or another.” “We’re good for it.”

They expect investors to continue buying Treasuries despite concerns about reaching the debt limit, bidding up US government bond prices.

This is what happened during the debt-ceiling drama in 2011, when the country was nearing its ex-date. Investors sought safety in the 10-year Treasury note TMUBMUSD10Y,
According to Sevens Report Research, its yield is falling due to concerns over debt ceiling.

Based on market reaction to 2011 investors may turn to ‘hide’ as US debt-trunk deadline looms

Goldman Phillips said, “It’s counterintuitive, but, ironically, what will probably happen is that investors will be selling stocks and going into Treasuries,” despite the fact that the debt ceiling is, in theory, something that Treasuries can’t control. will affect

US downgrade?

In late April, Fitch Ratings warned that Congress risks being harmed by the debt-limit performance …