Tag: Debt Ceiling

Details of the United States Credit Watch and Downgrade Status

Posted on by phoffman@channelchek.com

Fitch Has Placed the United States and Some of its Debt on Credit Watch

What does it mean that rating agency Fitch has put the US debt on credit watch?

According to Fitch Ratings, a rating service that is one of the top three Nationally Recognized Statistical Rating Agencies (NRSRO), has placed the United States AAA Long-Term, Issuer Default Rating (IDR) on rating watch and at risk of a downgrade. The primary reason for the rating agency warning is the apparent standstill of negotiations related to the US borrowing limit along with the approaching day that the US may not be able to refinance the interest portion of approaching US Treasury Bills (T-Bills), US Treasury Notes (T-Notes), and US Treasury Bonds (T-Bonds).

Implications

When a top credit rating agency places a country’s debt on credit watch, it means that the agency is considering lowering that country’s credit rating if conditions remain unchanged or worsen. This would have a number of negative consequences for the country, and could negatively impact those that operate within its economy, this could include:

  • Higher interest rates on government borrowing
  • Higher rates on corporate debt priced off of US Treasuries
  • Higher mortgage rates spread to US Treasuries
  • A decline in the value of the country’s currency
  • Increased difficulty in attracting foreign investment

A downgrade of the US government credit rating below AAA would be a major event with far-reaching consequences above and beyond the immediate impacts bullet-pointed above.

Wording of the Fitch Ratings Warning

Rating agencies like Fitch, Moody’s, and S&P are private companies. Debt issuers pay to have their debt issues rated to provide investors with information and a framework of value. These rating agencies or NRSROs are somewhat akin to providers of equity research to stock market participants via company-sponsored research.

Some of the main categories listed by Fitch titled, KEY RATING DRIVERS, are “Debt Ceiling Brinkmanship”, “Debt Limit Reached”, “X-Date Approaching”, “Debt Default Rating Implication”, “Potential Post Default Ratings”, and “High and Rising Public Debt Burden”.

The concern with debt ceiling brinkmanship according to Fitch is the “increased political partisanship that is hindering reaching a resolution to raise or suspend the debt limit despite the fast-approaching x-date (when the U.S. Treasury exhausts its cash position and capacity for extraordinary measures without incurring new debt).”

Fitch’s warning indicates it still expects a resolution to the debt limit before the x-date. However, it believes risks have risen that the debt limit will not be raised or suspended before the x-date and that the government could begin to miss payments on some of its obligations.

Fitch pointed out that the US reached its $31.4 trillion debt ceiling on Jan. 19, 2023. While the US Treasury has taken what Janet Yellen called “extraordinary measures” she also expects the measures could be exhausted as early as June 1, 2023. The cash balance of the Treasury reached USD76.5 billion as of May 23, and sizeable payments are due June 1-2.

The x-date has been defined as the day the US can’t meet its obligations without borrowing above the current Congressional debt limit. Failure to reach a deal “to raise or suspend the debt limit by the x-date would be a negative signal of the broader governance and willingness of the U.S. to honor its obligations in a timely fashion,” Fitch warned. The rating agency indicated this “would be unlikely to be consistent with a ‘AAA’ rating”   

Fitch also addressed the 14th amendment discussions and other unconventional solutions, “avoiding default by non-conventional means such as minting a trillion-dollar coin or invoking the 14th amendment is unlikely to be consistent with a ‘AAA’ rating and could also be subject to legal challenges,” Fitch advised.

The debt default rating warning comes from basic understanding of the role of a rating agency. However, Fitch did offer an opinion on the likelihood. “We believe that failing to make full and timely payments on debt securities is less likely than reaching the x-date, and is a very low probability event.

If a default did occur, Fitch indicated it would be more than one level adjustment to some debt affected. Fitch’s sovereign rating criteria would lead it to downgrade the sovereign rating (IDR) to Restricted Default (RD). Actual affected securities would be downgraded to ‘D’. Additionally, other LT debt securities with payments due within 30 days could be expected to be downgraded to ‘CCC’, and ST T-Bills maturing within the following 30 days could be expected to be downgraded to ‘C’.

“Other debt securities with payments due beyond 30 days would likely be downgraded to the expected post-default rating of the IDR,” Fitch wrote.

The US has a high and rising public debt burden, according to the rating agency. It points out that government debt fell to 112.5% of GDP at year-end 2022 (compared to 36.1% for the ‘AAA’ median). It peaked during the pandemic at 122.3%. Fitch forecasts debt to increase to 117% by end-2024. Debt dynamics under the baseline Congressional Budget Office (CBO) assumptions project that the ratio of federal debt held by the public to GDP will approach 119% within a decade under the current policy setting, a rise of over 20 pp. Fitch also recognizes the added cost of financing, adding, “interest rates have risen significantly over the last year with the 10-year Treasury yield at close to 3.7% (compared to 2.8% a year ago).”

Take Away

The decision to put a country’s debt on credit watch is not made lightly. One company announcement such as this can have an impact felt across the globe. It’s important for them to get this right. NRSROs typically would only put a sovereign nation, especially the US, where its debt is often called “the risk free rate,” and the US dollar serves as fiat currency. Firch did this because they view it as responsible and in line with what securities analysts and the rating services they work for are expected to watch out for.

In the current case of the United States debt ratings, the main concern is the political gridlock in Washington, which has made it difficult to reach an agreement on raising the debt ceiling. If the debt ceiling is not raised, the United States will eventually run out of money to pay its bills, which would trigger a default. Fitch would be embarrassed (and arguably irresponsible) if they maintained a AAA rating just one week before the US Treasury Secretary indicated the nation couldn’t roll its debt.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.fitchratings.com/research/sovereigns/fitch-places-united-states-aaa-on-rating-watch-negative-24-05-2023

We May Soon Know if Yellen’s “Extraordinary Measures” are Extraordinary Enough

Posted on by phoffman@channelchek.com

The Pace of the U.S. Treasury Burn Rate Toward a $0.00 Balance

The US Treasury Department is nearing its last ounce of blood as it has been bleeding operating funds. All parties know that the debt ceiling has to be raised if the country is to avoid a financial catastrophe. Still, an impasse on debt ceiling negotiations continues. While the House of Representatives has passed a borrowing cap plan, it is not expected that the Senate would agree on the spending reductions, and President Biden made clear he would not sign it.

The markets, of course, have been paying attention, but for the most part, they have chosen to ignore the drama. Anyone that has been involved in the markets for a few years knows that in the past, there have been stop-gap measures or 11th hour decisions that have avoided a US debt default.

It is Getting Close

The US Treasury reported last Thursday that it had $57.3 billion in cash on hand. As with any ongoing entity, each week, it receives revenue and pays expenses. So the daily balance runoff fluctuates by different amounts each day. A snapshot is reported each Thursday along with other US financial data. The current pace, while not a precise rate to gauge the net burn rate, is useful.

The operating balance used to pay our bills as a nation has declined from $238.5 billion at the start of May, when tax collections helped boost balances. That’s a $181.2 billion decline over 18 days, or $10 billion per day. If the pace holds, the United States balance sheet reaches zero before the June 1 date previously estimated by US Treasury Secretary Janet Yellen.

Image: @GRDector (Twitter)

How are Officials Reacting?

The US reached its Congressionally imposed borrowing cap in January. Since then, there has been a cutting back on spending, as had been announced in January by Janet Yellen. The Treasury has since been operating under an “Extraordinary Measures” plan, reducing less than critical spending to pay obligations that can not be ignored without great consequence. This bandaid approach will go on and, at this point, can only be “fixed” if the debt ceiling is raised once again by Congress.

Treasury Secretary Janet Yellen has been clear in warning lawmakers that the Treasury’s ability to avoid default could end as soon as June 1. The nation has to increase its ability to legally borrow to make its payments while its obligations exceed its revenue.

Averting a June Crisis Without Congress

While most US citizens are aware of the mid-April individual tax date, corporate tax dates are quarterly. The next time most corporations pay their estimated taxes is June 15th. If Secretary Yellen can squeeze the Treasury balances until June 15th, she will no longer be driving on fumes – instead, she will have added a little more gas, not enough to get her to the next corporate tax date.  

Another thought depends on one’s interpretation of the 14th Amendment. This amendment of the US Constitution contains several provisions, one of which is Section 4. This section states that “the validity of the public debt of the United States, authorized by law… shall not be questioned.” While the exact interpretation of this provision is a matter of legal debate, it has been suggested that it could potentially provide a legal basis for the government to continue meeting its financial obligations, even if the debt ceiling is reached.

Some argue that the 14th Amendment could empower the President to bypass the debt ceiling and ensure that the government continues to pay its debts on time, based on the principle that the United States must honor its financial obligations.

Source: US Treasury (May 18, 2023)

Stalled Talks

Although the date of $zero balance is not far off if the President and Senate doesn’t agree to the House plan, or if the House is inflexible, negotiations have moved in fits and starts with Congressional leaders meeting on and off with each other and with the Executive branch.  

If the nation does default, it will unleash global economic and financial upheaval. The full consequences are not known since it’s never happened before. Those likely to see funds come to a crawl or be turned off are:

  • Interest on the debt: While the debt itself would continue to be serviced, a stringent austerity plan could potentially result in reduced payments towards interest on the national debt.
  • Government programs and agencies: Funding for discretionary programs, such as infrastructure projects, education initiatives, environmental programs, or research grants, could be reduced or eliminated.
  • Social welfare programs: Payments for social welfare programs, such as unemployment benefits, food assistance, housing subsidies, or healthcare subsidies, may be reduced or scaled back.
  • Defense spending: Military expenditures and defense contracts may face cuts, impacting payments to defense contractors and the procurement of military equipment and services.
  • Government salaries and benefits: Austerity measures could involve salary freezes, reductions, or furloughs for government employees, including civil servants, military personnel, or elected officials.
  • Infrastructure projects: Funding for infrastructure development and maintenance, including transportation systems, highways, bridges, and public facilities, may face reductions or delays.
  • Grants to states and local governments: Payments to states and local governments for various programs, such as education, healthcare, or community development, could be reduced.

The above are not set in stone, it’s important to note that the specific impacts of an austerity plan would depend on the policies and priorities set by the government, and different austerity measures are also a matter of negotiation.

While Yellen, the Congressional Budget Office, and multiple other forecasters think the $Zero date is likely during the first two weeks of June, it’s possible that the Treasury will have enough funds to carry it through the middle of the month, which would add more time.

However, as it looks now, the US Government is running on fumes; in the past, it has not allowed itself to completely run out of gas. If today’s situation follows past history, the markets will get scared a few more times before the US leaders agree and the country is back to business as usual.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://fiscaldata.treasury.gov/datasets/daily-treasury-statement/operating-cash-balance

https://home.treasury.gov/news/press-releases/jy1483

Is Your Bank Prepared for a US Debt Default?

Posted on by phoffman@channelchek.com

War Rooms and Bailouts: How Banks and the Fed are Preparing for a US Default – and the Chaos Expected to Follow

When you are the CEO responsible for a bank and all the related depositors and investors, you don’t take an “it’ll never happen” approach to the possibility of a U.S. debt default. The odds are it won’t happen, but if it does, being unprepared would be devastating. Banks of all sizes are getting their doomsday plans in place, and other industries are as well, but big banks, on many fronts would be most directly impacted. The following is an informative article on how banks are preparing. It’s authored by John W. Diamond the Director of the Center for Public Finance at the Baker Institute, Rice University, and republished with permission from The Conversation.  – Paul Hoffman, Managing Editor, Channelchek

Convening war rooms, planning speedy bailouts and raising house-on-fire alarm bells: Those are a few of the ways the biggest banks and financial regulators are preparing for a potential default on U.S. debt.

“You hope it doesn’t happen, but hope is not a strategy – so you prepare for it,” Brian Moynihan, CEO of Bank of America, the nation’s second-biggest lender, said in a television interview.

The doomsday planning is a reaction to a lack of progress in talks between President Joe Biden and House Republicans over raising the US$31.4 trillion debt ceiling – another round of negotiations took place on May 16, 2023. Without an increase in the debt limit, the U.S. can’t borrow more money to cover its bills – all of which have already been agreed to by Congress – and in practical terms that means a default.

What happens if a default occurs is an open question, but economists – including me – generally expect financial chaos as access to credit dries up and borrowing costs rise quickly for companies and consumers. A severe and prolonged global economic recession would be all but guaranteed, and the reputation of the U.S. and the dollar as beacons of stability and safety would be further tarnished.

But how do you prepare for an event that many expect would trigger the worst global recession since the 1930s?

Preparing for Panic

Jamie Dimon, who runs JPMorgan Chase, the biggest U.S. bank, told Bloomberg he’s been convening a weekly war room to discuss a potential default and how the bank should respond. The meetings are likely to become more frequent as June 1 – the date on which the U.S. might run out of cash – nears.

Dimon described the wide range of economic and financial effects that the group must consider such as the impact on “contracts, collateral, clearing houses, clients” – basically every corner of the financial system – at home and abroad.

“I don’t think it’s going to happen — because it gets catastrophic, and the closer you get to it, you will have panic,” he said.

That’s when rational decision-making gives way to fear and irrationality. Markets overtaken by these emotions are chaotic and leave lasting economic scars.

Banks haven’t revealed many of the details of how they are responding, but we can glean some clues from how they’ve reacted to past crises, such as the financial crisis in 2008 or the debt ceiling showdowns of 2011 and 2013.

One important way banks can prepare is by reducing exposure to Treasury securities – some or all of which could be considered to be in default once the U.S. exhausts its ability to pay all of its bill. All U.S. debts are referred to as Treasury bills or bonds.

The value of Treasurys is likely to plunge in the case of a default, which could weaken bank balance sheets even more. The recent bank crisis, in fact, was prompted primarily by a drop in the market value of Treasurys due to the sharp rise in interest rates over the past year. And a default would only make that problem worse, with close to 190 banks at risk of failure as of March 2023.

Another strategy banks can use to hedge their exposure to a sell-off in Treasurys is to buy credit default swaps, financial instruments that allow an investor to offset credit risk. Data suggests this is already happening, as the cost to protect U.S. government debt from default is higher than that of Brazil, Greece and Mexico, all of which have defaulted multiple times and have much lower credit ratings.

But buying credit default swaps at ever-higher prices limits a third key preventive measure for banks: keeping their cash balances as high as possible so they’re able and ready to deal with whatever happens in a default.

Keeping the Financial Plumbing Working

Financial industry groups and financial regulators have also gamed out a potential default with an eye toward keeping the financial system running as best they can.

The Securities Industry and Financial Markets Association, for example, has been updating its playbook to dictate how players in the Treasurys market will communicate in case of a default.

And the Federal Reserve, which is broadly responsible for ensuring financial stability, has been pondering a U.S. default for over a decade. One such instance came in 2013, when Republicans demanded the elimination of the Affordable Care Act in exchange for raising the debt ceiling. Ultimately, Republicans capitulated and raised the limit one day before the U.S. was expected to run out of cash.

One of the biggest concerns Fed officials had at the time, according to a meeting transcript recently made public, is that the U.S. Treasury would no longer be able to access financial markets to “roll over” maturing debt. While hitting the current ceiling prevents the U.S. from issuing new debt that exceeds $31.4 trillion, the government still has to roll existing debt into new debt as it comes due. On May 15, 2023, for example, the government issued just under $100 billion in notes and bonds to replace maturing debt and raise cash.

The risk is that there would be too few buyers at one of the government’s daily debt auctions – at which investors from around the world bid to buy Treasury bills and bonds. If that happens, the government would have to use its cash on hand to pay back investors who hold maturing debt.

That would further reduce the amount of cash available for Social Security payments, federal employees wages and countless other items the government spent over $6 trillion on in 2022. This would be nothing short of apocalyptic if the Fed could not save the day.

To mitigate that risk, the Fed said it could immediately step in as a buyer of last resort for Treasurys, quickly lower its lending rates and provide whatever funding is needed in an attempt to prevent financial contagion and collapse. The Fed is likely having the same conversations and preparing similar actions today.

A Self-Imposed Catastrophe

Ultimately, I hope that Congress does what it has done in every previous debt ceiling scare: raise the limit.

These contentious debates over lifting it have become too commonplace, even as lawmakers on both sides of the aisle express concerns about the growing federal debt and the need to rein in government spending. Even when these debates result in some bipartisan effort to rein in spending, as they did in 2011, history shows they fail, as energy analyst Autumn Engebretson and I recently explained in a review of that episode.

That’s why one of the most important ways banks are preparing for such an outcome is by speaking out about the serious damage not raising the ceiling is likely to inflict on not only their companies but everyone else, too. This increases the pressure on political leaders to reach a deal.

Going back to my original question, how do you prepare for such a self-imposed catastrophe? The answer is, no one should have to.

In the Event of an Official U.S. Bankruptcy…

Posted on by phoffman@channelchek.com

Is a U.S. Default or Bankruptcy Possible – How Would that Work?

It seems no one is talking about what would happen if the U.S. defaulted on maturing debt, yet it is within the realm of possibilities. Also not impossible is the idea of the powerful country joining the list of sovereign nations that once declared bankruptcy and survived. A retired government employee with a passion for economic history wrote a timely piece on this subject. It was originally published on the Mises Institute website on  May 12, 2023. Channelchek has shared it here with permission.

The current known federal debt is $31.7 trillion, according to the website, U.S. Debt Clock, this is about $94,726 for every man, woman, and child who are citizens as of April 24, 2023. Can you write a check right now made payable to the United States Treasury for the known share of the federal debt of each member of your family after liquidating the assets you own?

A report released by the St. Louis Federal Reserve Branch on March 6, 2023, stated a similar figure for the total known federal debt of about $31.4 trillion as of December 31, 2022. The federal debt size is so great, it can never be repaid in its current form.

Some of us have been in or known families or businesses who had financial debt that could not be paid when adjustments like reducing expenses, increasing income, renegotiating loan repayments to lender(s), and selling assets to raise money for loan repayment were not enough. The reality is that they still could not pay the debt owed to the lender(s).

This leads to filing bankruptcy under federal bankruptcy laws overseen by a federal bankruptcy court.

Chapter 7 bankruptcy is a liquidation proceeding available to consumers and businesses. It allows for assets of a debtor that are not exempt from creditors to be collected and liquidated (turned to cash), and the proceeds distributed to creditors. A consumer debtor receives a complete discharge from debt under Chapter 7, except for certain debts that are prohibited from discharge by the Bankruptcy Code.

Chapter 11 bankruptcy provides a procedure by which an individual or a business can reorganize its debts while continuing to operate. The vast majority of Chapter 11 cases are filed by businesses. The debtor, often with participation from creditors, creates a plan of reorganization under which to repay part or all its debts.

These government entities have filed for Chapter 9 federal bankruptcy:

Orange County, California, in 1994 for about $1.7 billion

Jefferson County, Alabama, in 2011 for about $5 billion

The City of Detroit, Michigan, in 2013 for about $18 billion

The Commonwealth of Puerto Rico in 2017 for $72 billion

According to the United States Courts website:

The purpose of Chapter 9 is to provide a financially-distressed municipality protection from its creditors while it develops and negotiates a plan for adjusting its debts. Reorganization of the debts of a municipality is typically accomplished either by extending debt maturities, reducing the amount of principal or interest, or refinancing the debt by obtaining a new loan.

Although similar to other Chapters in some respects, Chapter 9 is significantly different in that there is no provision in the law for liquidation of the assets of the municipality and distribution of the proceeds to creditors.

The bankruptcies of two counties, a major city, and a sovereign territory resulted in bondholders with financial losses not repaid in full as well as reforms enacted in each governmental entity. Each one emerged from bankruptcy, one hopes, humbled and better able to manage their finances.

The federal government’s best solution for bondholders, taxpayers, and other interested parties is to default, declare sovereign bankruptcy, and make the required changes to get the fiscal business in order. Default, as defined by Dictionary.com as a verb, is “to fail to meet financial obligations or to account properly for money in one’s care.”

Sovereign government defaults are not new in our lifetime with Argentina in 1989, 2001, 2014, and 2020; South Korea, Indonesia, and Thailand in 1997, known as the Asian flu; Greece in 2009; and Russia in 1998.

Possible Outcomes

Some outcomes from these defaults lead to sovereign government debt bond ratings being reduced by the private rating agencies, bondholders losing value on their holdings, debt repayments being renegotiated with lenders, many countries receiving loans with a repayment plan from the International Monetary Fund (IMF), reforms being required to nations’ entitlement programs, a number of government taxes being raised, their currency losing value on currency trading exchanges, price inflation becoming more of a reality to its citizens, and higher interest rates being offered on future government debt bond offerings.

Very few in the financial world are talking about any outcomes of a U.S. federal government debt default. One outcome from the 2011 near default was Standard & Poor’s lowering their AAA federal bond rating to AA+ where it has remained.

What organization would oversee the execution of a U.S. federal government debt default, and what authorization would they be given to deal with the situation? No suggestions are offered when its scale is numerically mind-numbing since the U.S. has used debt as its drug of choice to overdose on fiscal reality.

Some outcomes would include a lowered federal bond rating by the three private bond rating agencies, where the reality of higher interest rates being offered on newly issued federal debt cannot be ignored. Federal government spending cuts in some form will be required by the realities of economic law, which includes reducing the number of federal employees, abolishing federal agencies, reducing and reforming military budgets, selling federal government property, delegating federal programs to the states, and reforming the federal entitlement programs of Medicaid, Medicare, and Social Security. Federal government tax revenue to repay the known debt with interest will rise as a percentage of each year’s future federal budget.

One real impact from a federal government debt default would be that the U.S. dollar would no longer be the global reserve currency, with dollars in many national reserve banks coming back to the U.S. Holding dollars will be like holding a hot potato. Nations holding federal debt paper—like China ($859 billion), Great Britain ($668 billion), Japan ($1.11 trillion), and others as of the January 2023 numbers published by the U.S. Treasury—as well as many mutual funds and others will see their holdings reduced in value leading to a selling off of a magnitude one cannot imagine in scale and timing. Many mutual fund holders like retirees, city and state retirement systems, and 401(k) account holders will be impacted by this unfolding event.

The direction of an individual or business when they emerge from federal bankruptcy is hopefully humility—looking back with the perspective of mistakes made, learning from these mistakes, and moving forward with a focus to benefit their family and community.

However, cities, counties, and sovereign territories differ from individuals, families, and private businesses in emerging from federal bankruptcy. What the outcome of a federal government debt default will be is unknown. Yet its reality is before us.

About the Author:

Stephen Anderson is retired from state government service and is a graduate of The University of Texas at Austin. He currently lives in Texas. His passions are reading, writing, and helping friends and family understand economic history.

What If US Debt Ceiling Wrangling Ends Badly

Posted on by phoffman@channelchek.com
Image Credit: Engin Akyurt (Pexels)

US Debt Default Could Trigger Dollar’s Collapse – and Severely Erode America’s Political and Economic Might

Congressional leaders at loggerheads over a debt ceiling impasse sat down with President Joe Biden on May 9, 2023, as the clock ticks down to a potentially catastrophic default if nothing is done by the end of the month.

Republicans, who regained control of the House of Representatives in November 2022, are threatening not to allow an increase in the debt limit unless they get spending cuts and regulatory rollbacks in return, which they outlined in a bill passed in April 2023. In so doing, they risk pushing the U.S. government into default.

It feels a lot like a case of déjà vu all over again.

Brinkmanship over the debt ceiling has become a regular ritual – it happened under the Clinton administration in 1995, then again with Barack Obama as president in 2011, and more recently in 2021.

This article was republished with permission from The Conversation, a news site dedicated to sharing ideas from academic experts. It represents the research-based findings and thoughts of, Michael Humphries, Deputy Chair of Business Administration, Touro University.

Image: An 11 year-old sampling of possibilities from the RPC (June 19, 2012)

As an economist, I know that defaulting on the national debt would have real-life consequences. Even the threat of pushing the U.S. into default has an economic impact. In August 2021, the mere prospect of a potential default led to an unprecedented downgrade of the the nation’s credit rating, hurting America’s financial prestige as well as countless individuals, including retirees.

And that was caused by the mere specter of default. An actual default would be far more damaging.

Dollar’s Collapse

Possibly the most serious consequence would be the collapse of the U.S. dollar and its replacement as global trade’s “unit of account.” That essentially means that it is widely used in global finance and trade.

Day to day, most Americans are likely unaware of the economic and political power that goes with being the world’s unit of account. Currently, more than half of world trade – from oil and gold to cars and smartphones – is in U.S. dollars, with the euro accounting for around 30% and all other currencies making up the balance.

As a result of this dominance, the U.S. is the only country on the planet that can pay its foreign debt in its own currency. This gives both the U.S. government and American companies tremendous leeway in international trade and finance.

No matter how much debt the U.S. government owes foreign investors, it can simply print the money needed to pay them back – although for economic reasons, it may not be wise to do so. Other countries must buy either the dollar or the euro to pay their foreign debt. And the only way for them to do so is to either to export more than they import or borrow more dollars or euros on the international market.

The U.S. is free from such constraints and can run up large trade deficits – that is, import more than it exports – for decades without the same consequences.

For American companies, the dominance of the dollar means they’re not as subject to the exchange rate risk as are their foreign competitors. Exchange rate risk refers to how changes in the relative value of currencies may affect a company’s profitability.

Since international trade is generally denominated in dollars, U.S. businesses can buy and sell in their own currency, something their foreign competitors cannot do as easily. As simple as this sounds, it gives American companies a tremendous competitive advantage.

If Republicans push the U.S. into default, the dollar would likely lose its position as the international unit of account, forcing the government and companies to pay their international bills in another currency.

Loss of Political Power Too

The dollar’s dominance means trade must go through an American bank at some point. This is one important way it gives the U.S. tremendous political power, especially to punish economic rivals and unfriendly governments.

For example, when former President Donald Trump imposed economic sanctions on Iran, he denied the country access to American banks and to the dollar. He also imposed secondary sanctions, which means that non-American companies trading with Iran were also sanctioned. Given a choice of access to the dollar or trading with Iran, most of the world economies chose access to the dollar and complied with the sanctions. As a result, Iran entered a deep recession, and its currency plummeted about 30%.

President Joe Biden did something similar against Russia in response to its invasion of Ukraine. Limiting Russia’s access to the dollar has helped push the country into a recession that’s bordering on a depression.

No other country today could unilaterally impose this level of economic pain on another country. And all an American president currently needs is a pen.

Rivals Rewarded

Another consequence of the dollar’s collapse would be enhancing the position of the U.S.‘s top rival for global influence: China.

While the euro would likely replace the dollar as the world’s primary unit of account, the Chinese yuan would move into second place.

If the yuan were to become a significant international unit of account, this would enhance China’s international position both economically and politically. As it is, China has been working with the other BRIC countries – Brazil, Russia and India – to accept the yuan as a unit of account. With the other three already resentful of U.S. economic and political dominance, a U.S. default would support that effort.

They may not be alone: Recently, Saudi Arabia suggested it was open to trading some of its oil in currencies other than the dollar – something that would change long-standing policy.

Severe Consequences

Beyond the impact on the dollar and the economic and political clout of the U.S., a default would be profoundly felt in many other ways and by countless people.

In the U.S., tens of millions of Americans and thousands of companies that depend on government support could suffer, and the economy would most likely sink into recession – or worse, given the U.S. is already expected to soon suffer a downturn. In addition, retirees could see the worth of their pensions dwindle.

The truth is, we really don’t know what will happen or how bad it will get. The scale of the damage caused by a U.S. default is hard to calculate in advance because it has never happened before.

But there’s one thing we can be certain of. If the threat of default is taken too far, the U.S. and Americans will suffer tremendously.

Debt Ceiling Crisis Versus Partisan Politics

Posted on by phoffman@channelchek.com
Image Credit: The White House

Can Biden and McCarthy Avert a Calamitous Debt Default? Three Evidence-Backed Leadership Strategies that Might Help

The U.S. is teetering toward an unprecedented debt default that could come as soon as June 1, 2023.

In order for the U.S. to borrow more money, Congress needs to raise the debt ceiling – currently $31.4 trillion. President Joe Biden has refused to negotiate with House Republicans over spending, demanding instead that Congress pass a stand-alone bill to increase the debt limit. House Speaker Kevin McCarthy won a small victory on April 26 by narrowly passing a more complex bill with GOP support that would raise the debt ceiling but also slash spending and roll back Biden’s policy agenda.

Biden recently invited congressional leaders, including GOP leader McCarthy, to the White House on May 9 to discuss the situation but insisted he isn’t willing to negotiate.

Rather than leading the nation, Biden and McCarthy seem to be waging a partisan political war. Biden likely doesn’t want to be seen as giving in to Repubicans’ demands and diminishing legislative wins for his liberal constituency. McCarthy, with his slim majority in the House, needs to appease even the most hard-line members of his party.

This article was republished with permission from The Conversation, a news site dedicated to sharing ideas from academic experts. It represents the research-based findings and thoughts of, Wendy K. Smith, Professor of Business and Leadership, University of Delaware.

Having studied leadership for over 25 years, I would suggest that their leadership styles are polarized, oppositional, short-term and highly ineffective. Such combative leadership risks a debt default that could send the U.S. into recession and potentially lead to a global economic and financial crisis.

While it may seem almost impossible in the current political climate, Biden and McCarthy have an opportunity to turn around this crisis and leave a positive and lasting legacy of courageous leadership. To do so, they need to put aside partisanship and adopt a different approach. Here are a few evidence-backed strategies to get them started.

Moving From a Zero-Sum Game to a More Holistic Approach

Political leaders often risk being hijacked by members of their own party. McCarthy faces a direct threat by hard-line conservative members of his coalition.

For example, back in January, McCarthy agreed to let a single lawmaker force a vote for his ouster to win enough votes from ultraconservative lawmakers to become speaker. That and other concessions give the most extreme members of his party a lot of control over his agenda and limit McCarthy’s ability to make a compromise deal with the president.

Biden, who just announced he’s running for reelection in 2024, is betting his first-term accomplishments – such as unprecedented climate investments and student loan forgiveness – will help him keep the White House. Negotiating any of that away could cost him the support of key parts of his base.

My research partner Marianne W. Lewis and I label this kind of short-term, one-sided leadership as “either/or” thinking. That is, this approach assumes that leadership decisions are a zero-sum game – every inch you give is a loss to your side. We argue that this kind of leadership is limited at best and detrimental at worst.

Instead, we find that great leadership involves what we call “both/and” thinking, which involves seeking integration and unity across opposing perspectives. History offers examples of how this more holistic leadership style has achieved substantial achievements.

President Lyndon B. Johnson and fellow Democrats were struggling to get a Senate vote on the Civil Rights Act of 1964 and needed Republican support. Despite his initial opposition, Republican Sen. Everett McKinley Dirksen – then the minority leader and a staunch conservative – led colleagues in crossing party lines and joining Democrats to pass the historic legislation.

Another example came in 1990, when South Africa’s then-President Frederik Willem de Klerk freed opponent Nelson Mandela from prison. The two erstwhile political enemies agreed to a deal that ended apartheid and paved the way for a democratic government – which won them both the Nobel Peace Prize. Mandela became president four years later.

This integrative leadership approach starts with a shift of mindset that moves away from seeing opposing sides as conflicting and instead values them as generative of new possibilities. So in the case of the debt ceiling situation, holistic leadership means, at the least, Biden would not simply put up his hands and refuse to negotiate over spending. He could acknowledge that Republicans have a point about the nation’s soaring debt load. McCarthy and his party might recognize they cannot just slash spending. Together they could achieve greater success by developing an integrative plan that cuts costs, increases taxes and raises the debt ceiling.

Champion a Long-Term Vision Over Short-Term Goals

What we call “short-termism” plagues America’s politics. Leaders face pressure to demonstrate immediate results to voters. Biden and McCarthy both have strong incentives to focus on a short-term victory for their side with the presidential and congressional elections coming soon. Instead, long-term thinking can help leaders with competing agendas.

In a 2015 study, Natalie Slawinski and Pratima Bansal studied executives at five Canadian oil companies who were dealing with tensions between keeping costs low in the short term while making investments that could mitigate their industry’s environmental impact over the long run. The two scholars found that those who focused on the short term struggled to reconcile the two competing forces, while long-term thinkers managed to find more creative solutions that kept costs down but also allowed them to do more to fight climate change.

Likewise, if Biden and McCarthy want to avert a financial crisis and leave a lasting legacy, they would benefit from focusing on the long term. Finding points of connection in this shared long-term goal, rather than stressing their significant differences about how to get there, can help shift away from their standoff and toward a solution.

Be Adaptive, Not Assured

Voters often praise political leaders who act swiftly and with confidence and self-assurance, particularly at a moment of economic uncertainty.

Yet finding a creative solution to America’s greatest challenges often requires leaders to put aside the swagger and adapt, meaning they take small steps to listen to one another, experiment with solutions, evaluate these outcomes and adjust their approach as needed.

In a study of business decisions at a Fortune 500 technology company, I spent a year following the senior management teams in charge of six units – each of which had revenues of over $1 billion. I found that the team leaders who were most innovative tended to be good at adaptation. They constantly explored whether they had made the right investment and made changes if needed.

Small steps are also necessary to build unlikely relationships with political foes. In his 2017 book, “Collaborating With the Enemy,” organizational consultant Adam Kahane describes how he facilitated workshops to help former enemies take small steps toward reconciliation, such as in South Africa at the end of apartheid and in Colombia amid the drug wars. Such efforts helped South Africa become a successful multiracial democracy and Colombia end decades of war with a guerrilla insurgency.

This kind of leadership requires small steps toward connection rather than large political leaps. It also requires that both sides let go of their positions and consider where they are willing to compromise.

Biden and McCarthy could learn from two former Tennessee governors, Democrat Phil Bredesen and Republican Bill Haslam. Though they oppose each other on almost every political issue, including gun control, the two former leaders have built a constructive relationship over the years. Rather than tackle the big divisive issues, they started with identifying the small points where they agreed with each other. Doing so led them to build greater trust and continue to look for connections.

So when a gunman killed six people at a school in Nashville recently, the two former governors were able to move beyond political finger-pointing and focus on how their respective parties could work together on meaningful gun reform.

Of course, it’s easier to do this once you’re out of office and the pressure from voters and parties goes away. And although current Tennessee Gov. Bill Lee agreed on the need for gun reform, his fellow Republicans in the state Legislature balked.

A Long Shot, But …

And that’s why I know this is a long shot. The two main political parties are as polarized as ever. The odds of a breakthrough that leads to anything more than a last-second deal that kicks the debt ceiling can down the road remain pretty low – and even that seems in doubt.

But this is about more than the debt ceiling. The U.S. faces a long list of problems big and small, from high inflation and a banking crisis to the war in Ukraine and climate change.

Americans need and deserve leaders who will tackle these issues by working together toward a more creative outcomes.

US Debt Ceiling Explained

Posted on by phoffman@channelchek.com
Source: The White House

What Happens if the US Hits the Debt Ceiling?

The US debt limit is the total amount of money the United States government is authorized to borrow to meet its existing obligations. These include interest on debt, Social Security, military costs, government payroll, utilities, tax refunds, and all costs associated with running the country.

The debt limit is not designed to authorize new spending commitments. Its purpose is to provide adequate financing for existing obligations that Congress, through the years, has approved. While taxes provide revenue to the US Treasury Department, taxation has not been adequate since the mid-1990s to satisfy US spending. This borrowing cap, the so-called debt ceiling, is the maximum congressional representatives have deemed prudent each year, and has always been raised to avert lost faith in the US and its currency.

Failing to increase the debt limit would have catastrophic economic consequences. It would cause the government to default on its legal obligations – which has never happened before. Default would bring about another financial crisis and threaten the financial well-being of American citizens. Since a default would be much more costly than Congress meeting to approve a bump up in the borrowing limit, which the President could then sign, it is likely that any stand-offf will be resolved on time.

Congress has always acted when called upon to raise the debt limit. Since 1960, Congress has acted 78 separate times to permanently raise, temporarily extend, or revise the definition of the debt.

How Does this Apply Today?

According to the Congressional Budget Office, tax receipts through April have been less than the CBO anticipated in February. The Budget Office now estimates that there is a significantly elevated risk that the US Treasury will run out of funds in early June 2023. The US Treasury Secretary has even warned that after June 1, the US will have trouble meeting its obligations. The implications could include a credit rating downgrade in US debt which could translate to higher interest rates. If US Treasury obligations, the so-called “risk free” investments, does not pay bondholders on time (interest), then the entire underpinning of an economy that relies on the faith in its economic system, could quickly unravel.

What Took Us Here?

On January 19, 2023, the statutory limit on the amount of debt that the Department of the Treasury could issue was reached. At that time, the Treasury announced a “debt issuance suspension period” during which, under the law, can take “extraordinary measures” to borrow additional funds without breaching the debt ceiling.

The Treasury Dept. and the CBO projected that the measures would likely be exhausted between July and September 2023. They warned that the projections were uncertain, especially since tax receipts in April were a wildcard.

It’s now known that receipts from income tax payments processed in April were less than anticipated. Making matters more difficult, the Internal Revenue Service (IRS) is quickly processing tax return payments.

If the debt limit is not raised or suspended before the extraordinary measures are exhausted, the government will ultimately be unable to pay its obligations fully. As a result, the government will have to delay making payments for some activities, default on its debt obligations, or both.

What Now?

The House of Representatives passed a package to raise the debt ceiling by $1.5 trillion in late April. The bill, includes spending cuts, additional work requirements in safety net programs, and other measures that are unpopular with Democrats. To pass, the Senate, which has a Democratic majority, would have to pass it. Democratic Senator Chuck Schumer described the chances as “dead on arrival.”

House Speaker McCarthy has accepted an invitation from President Biden to meet on May 9 to discuss debt ceiling limits. The position the White House is maintaining is that it will not negotiate over the debt ceiling. The President’s party is looking for a much higher debt ceiling that allows for greater borrowing powers.

In the past, debt ceiling negotiations have often gone into the night on the last day and have suddenly been resolved in the nick of time. Treasury Secretary Yellen made mention of this and warned that past debt limit impasses have shown that waiting until the last minute can cause serious harm, including damage to business and consumer confidence as well as increased short-term borrowing costs for taxpayers. She added that it also makes the US vulnerable in terms of national security.

Expect volatility in all markets as open discussions and likely disappointments will heat up beginning at the May 9th meeting between McCarthy and Biden.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://fiscaldata.treasury.gov/americas-finance-guide/

https://www.cbo.gov/taxonomy/term/2/latest

https://www.cbo.gov/publication/58906

What Investments Rally During a Debt Ceiling Standoff?

Posted on by phoffman@channelchek.com
Image Credit: Downing Street (Flickr)

The Debate Over the U.S. Spending Limit Opens Investment Opportunities

The U.S. debt-ceiling crisis, as Summer 2023 approaches, can go one of two ways. First, all parties in Congress could quickly meet and vote on fixing it, thus averting a catastrophe; alternatively, the debate could heat up as we approach the day when the U.S. Treasury can’t borrow to pay the country’s bills. At the risk of sounding negative, the timing of Washington finally ironing out a solution is likely to be hours before the moment the country would have been unable to fund maturing debt, minutes before it would have to send workers home and halted other spending.

Okay, so that was a bit pessimistic. But, as investors, we rely on past performance, even though we know it is no guarantee of future results. And past performance by Congress has been that it waits until the 11th hour after all hope seems to be lost.

This has happened many times in the past. The last time it became truly scary was in 2011. For equity investors, stocks became volatile but overall averaged flat in the period. But, there were two investment sectors that attracted positive activity.

What’s Rallied in the Past?

The winning sector was U.S. Treasury bonds out along the yield curve with maturity dates not expected to be impacted by a possible non-payment at maturity. Today, bonds are rallying (rates down) even after the PCE inflation gauge showed little headway over the past two months, so this is an indication that government debt may still be considered an investor safe haven. But, investing in an entity headed toward insolvency is questionable practice, even when the entity speeding toward bankruptcy is the United States of America.

The second is precious metals (PM), a currency alternative – the longest-running safe haven of all. By precious metals, I’m speaking specifically of gold, silver, and the stock of companies whose main business it is to mine these metals.

The most recent nail-biting standoff was in 2011. It was a politically contentious time in Washington, arguably, today’s climate is even less agreeable. At the time, the U.S. government had reached its borrowing limit of $14.3 trillion and needed to raise the debt ceiling in order to continue paying its bills and avoid default. Congress, and the White House eventually agreed to a last-minute compromise, which included some spending cuts but avoided a U.S. default.

Between July 1 and September 8, 2011, PM investments trounced the S&P 500 (Koyfin)

During this time, the financial markets whipsawed investors. However, gold-related investments, along with silver related, turned dramatically upward until a deal was struck the second week of September. Gold rose to an all-time high of around $1,900 per ounce in September 2011. Investors used gold as a hedge against the same concerns we are experiencing in 2023, namely inflation and currency debasement.

Silver also saw its price rise, although not to the same extent as gold. The price of silver reached a high of around $48 per ounce in April 2011, before retreating to around $30 per ounce by the end of the year.

Mining stocks also benefited from the uncertainty in the financial markets (see above graph). Shares of companies like Barrick Gold, Newmont Mining, and Goldcorp all saw significant gains while other industries were getting whipsawed. Junior miner Coeur mining (CDE) rose 25.7% during the period between July 1 and September 8, 2011. Endeavour Silver (EXK) rose a full 30% in the same period.

Mark Reichman the Senior Research Analyst covering Natural Resources at Noble Capital Markets pointed to additional macroeconomic events shaping precious metals investment, “We remain constructive on precious metals. Year-to-date, gold prices have risen more than silver, and the gold-to-silver ratio has widened since the beginning of the year. Mr. Reichman suggests, “Two things to track are changes in monetary policy and the strength of the U.S. dollar.”  Outside of the U.S., Reichman informed,  “Global demand for precious metals, particularly in Asia, is very strong, and is driven in part by global uncertainty.”

Take Away

Historically, investors asking, “what happened last time?” can be helpful when choosing a direction. The U.S. may avert a showdown on the debt ceiling/spending limit issue. But the month of June, when analysts expect the U.S. to run out of money, is fast approaching. There doesn’t seem to be any headway at this point.

Every challenge brings opportunities to investors. Market participants interested in precious metals mining companies can get detailed information on many companies here on Channelchek by clicking here.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://en.wikipedia.org/wiki/History_of_the_United_States_debt_ceiling

Yellen is About to Know the Debt Ceiling Do or Die Date

Posted on by phoffman@channelchek.com
Image Credit: Federal Reserve (Flickr)

Tax Date Will Provide Timing on Critical Debt Ceiling Breach

While both stock and bond investors are focused on the Federal Reserve and how it will orchestrate lower inflation without crashing the economy, the debt limit time bomb hasn’t gotten much attention yet, this could quickly change. The U.S. mathematically hit its allowed debt ceiling on January 18, 2023. Treasury Secretary Janet Yellen has since been taking measures to avoid a U.S. default on the national debt. But she can only do this dance for so long. How long will become much clearer quite soon. April 18, 2023 is tax date; the U.S. Treasury will then have more precise revenue numbers. This will give the department a much better understanding of when the U.S. would default on its debt if Congress doesn’t allow a higher borrowing limit.

Congress tends to let these issues come down to the eleventh hour before acting. All parties involved know a default would be catastrophic, so the down-to-the-wire drama frustrates markets but tends to allow Congressional representatives to carve out deals on what is important to them. Some expect the actual deadline will be as early as mid-June, others forecast it to be just after summer. The answer will come into clearer focus as tax receipts are taken in over the coming week. Once the time-frame is more certain, the markets are likely to begin to then react as concern amps up.

The Treasury’s $31.4 trillion borrowing cap plus tax receipts will give a clearer idea of how much cash it will have available, which it can weigh against its spending rate. In a note to clients, Bank of America’s analysts, Mark Cabana and Katie Craig wrote “we maintain our current base case for a mid-August X-date but see risks skewed toward earlier.” This four-month or earlier period would end near the scheduled recess for both the House and Senate.

In the analysts view, an influx from taxes of more than $200 billion following tax day would be a relief, while a figure of less than $150 billion would be concerning. Meanwhile, U.S. House Speaker Kevin McCarthy is preparing to roll out his proposal this week for a one-year debt ceiling suspension, according to sources reported by Bloomberg. Republicans have long sought to make any deal contingent on spending cuts, while President Biden has insisted that budgetary needs and debt ceiling should be viewed separately. 

Over the coming months markets and US Treasury officials culd encounter:

T-Bill Yield Increases

Investors could expect higher yields on securities maturing in the very short end of the curve. The fear driving the rate increases is the knowledge that should the U.S. runs out of borrowing capacity, it may not be able to borrow to pay the maturing debt.

This could begin to create an unusual one-year and shorter yield curve as investors either want maturities well ahead of any possible default or well after to give the Congress time to act.

Insuring Against Default

A key market to watch is what happens in credit default swaps for U.S.-issued debt. There has been an increase in activity in recent months as pricing has moved past levels seen in previous debt-cap crunches; this is viewed as the market’s increased expectation of a higher probability of default.

Treasury Cash On-Hand

The measures Treasury Secretary Yellen deployed in late January to address the debt limit issue involve in part, spending cash it doesn’t need to borrow. Last week this cash dropped to $87 billion. This is the lowest level since December 2021 during the debt ceiling battle. However, with the tax payment infusion and other tax revenue, this amount is viewed as a safe cushion for the time being.

The amount of revenue received in taxes this week is critical in that market participants can gauge how far off the debt ceiling debate will be. The concern that the negotiations can cause short-term shifts in interest rates and impact the U.S. dollar and other markets generally has investors on edge.

The situation is not likely to be resolved until the eleventh hour with the current split Congress – when the peak period of drama occurs will be better known very soon.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.nab.org/documents/advocacy/2023CongressionalCalendar.pdf

https://www.bloomberg.com/news/articles/2023-04-17/tax-day-cash-will-indicate-just-how-close-the-us-is-to-default?srnd=premium#xj4y7vzkg

Game of Chicken With the US Economy Getting Under Way

Posted on by phoffman@channelchek.com
Image Credit: US Embassy, South Africa (Flickr)

US Debt Default Could Trigger Dollar’s Collapse – and Severely Erode America’s Political and Economic Might

Republicans, who regained control of the House of Representatives in November 2022, are threatening to not allow an increase in the debt limit unless spending cuts are agreed to. In so doing, there is a risk of the U.S. government could move into default.

Brinkmanship over the debt ceiling has become a regular ritual – it happened under the Clinton administration in 1995, then again with Barack Obama as president in 2011, and more recently in 2021.

This article was republished with permission from The Conversation, a news site dedicated to sharing ideas from academic experts. It represents the research-based findings and thoughts of, Michael Humphries, Deputy Chair of Business Administration, Touro University

As an economist, I know that defaulting on the national debt would have real-life consequences. Even the threat of pushing the U.S. into default has an economic impact. In August 2021, the mere prospect of a potential default led to an unprecedented downgrade of the the nation’s credit rating, hurting America’s financial prestige as well as countless individuals, including retirees.

And that was caused by the mere specter of default. An actual default would be far more damaging.

Dollar’s Collapse

Possibly the most serious consequence would be the collapse of the U.S. dollar and its replacement as global trade’s “unit of account.” That essentially means that it is widely used in global finance and trade.

Day to day, most Americans are likely unaware of the economic and political power that goes with being the world’s unit of account. Currently, more than half of world trade – from oil and gold to cars and smartphones – is in U.S. dollars, with the euro accounting for around 30% and all other currencies making up the balance.

As a result of this dominance, the U.S. is the only country on the planet that can pay its foreign debt in its own currency. This gives both the U.S. government and American companies tremendous leeway in international trade and finance.

No matter how much debt the U.S. government owes foreign investors, it can simply print the money needed to pay them back – although for economic reasons, it may not be wise to do so. Other countries must buy either the dollar or the euro to pay their foreign debt. And the only way for them to do so is to either to export more than they import or borrow more dollars or euros on the international market.

The U.S. is free from such constraints and can run up large trade deficits – that is, import more than it exports – for decades without the same consequences.

For American companies, the dominance of the dollar means they’re not as subject to the exchange rate risk as are their foreign competitors. Exchange rate risk refers to how changes in the relative value of currencies may affect a company’s profitability.

Since international trade is generally denominated in dollars, U.S. businesses can buy and sell in their own currency, something their foreign competitors cannot do as easily. As simple as this sounds, it gives American companies a tremendous competitive advantage.

If Republicans push the U.S. into default, the dollar would likely lose its position as the international unit of account, forcing the government and companies to pay their international bills in another currency.

Loss of Political Power Too

Since most foreign trade is denominated in the dollar, trade must go through an American bank at some point. This is one important way dollar dominance gives the U.S. tremendous political power, especially to punish economic rivals and unfriendly governments.

For example, when former President Donald Trump imposed economic sanctions on Iran, he denied the country access to American banks and to the dollar. He also imposed secondary sanctions, which means that non-American companies trading with Iran were also sanctioned. Given a choice of access to the dollar or trading with Iran, most of the world economies chose access to the dollar and complied with the sanctions. As a result, Iran entered a deep recession, and its currency plummeted about 30%.

President Joe Biden did something similar against Russia in response to its invasion of Ukraine. Limiting Russia’s access to the dollar has helped push the country into a recession that’s bordering on a depression.

No other country today could unilaterally impose this level of economic pain on another country. And all an American president currently needs is a pen.

Rivals Rewarded

Another consequence of the dollar’s collapse would be enhancing the position of the U.S.‘s top rival for global influence: China.

While the euro would likely replace the dollar as the world’s primary unit of account, the Chinese yuan would move into second place.

If the yuan were to become a significant international unit of account, this would enhance China’s international position both economically and politically. As it is, China has been working with the other BRIC countries – Brazil, Russia and India – to accept the yuan as a unit of account. With the other three already resentful of U.S. economic and political dominance, a U.S. default would support that effort.

They may not be alone: Recently, Saudi Arabia suggested it was open to trading some of its oil in currencies other than the dollar – something that would change long-standing policy.

Severe Consequences

Beyond the impact on the dollar and the economic and political clout of the U.S., a default would be profoundly felt in many other ways and by countless people.

In the U.S., tens of millions of Americans and thousands of companies that depend on government support could suffer, and the economy would most likely sink into recession – or worse, given the U.S. is already expected to soon suffer a downturn. In addition, retirees could see the worth of their pensions dwindle.

The truth is, we really don’t know what will happen or how bad it will get. The scale of the damage caused by a U.S. default is hard to calculate in advance because it has never happened before.

But there’s one thing we can be certain of. If there is a default, the U.S. and Americans will suffer tremendously.

The Current Debt Ceiling Austerity Plan

Posted on by phoffman@channelchek.com
World Bank Photo Collection (Flickr)

Extraordinary Measures as Outlined by US Treasurer Janet Yellen

There’s no doubt, the US Secretary of the Treasury, Janet Yellen, has been working overtime to provide an austerity plan as the US debt ceiling has just been reached. In the absence of the legal ability to sell debt in excess of the current outstanding, going to the bond markets and issuing Treasury Bills/Notes/Bonds is off-limits to the US government. So what’s a Treasury Secretary to do? The government has bills and other liabilities that are coming due, and today’s higher interest rates create a larger discount and nets less for the Treasury when rolling over some securities. This can be very problematic if the US stops paying bills on time or if there is a risk of default on debt; the US dollar can tumble, interest rates can skyrocket, and faith in our economic engine can unravel. You can imagine what this has the potential to do to equity markets.

In a letter, Yellen wrote to Congress dated January 19, she outlines the Treasury Department’s contingency plan, while Congress is expected to develop its own more permanent financial solution.

In the letter, she says the Treasury will cease adding to the Civil Service Retirement and Disability Fund (CSRDF) for those values not currently required to pay beneficiaries. Under ongoing business practices the CSRDF invests in special-issue Treasury securities specifically for its use. These securities count against the debt limit.

Similarly, the Postal Accountability and Enhancement Act of 2006 provides that investments in the Postal Service Retiree Health Benefits Fund (PSRHBF) are made in the same manner as investments for the CSRDF. The treasury will suspend additional investments of amounts credited to the PSRHBF.

It is expected that the CSRDF and the  PSRHBF will be made whole as part of the eventual solution.

She ends the letter by urging Congress to act swiftly as her measures will not provide a solution beyond late Spring.

Letter Dated January 19, 2023

Take Away

When the US bumps up against its debt limit it creates many problems. From a macro approach, if they raise the debt limit automatically may only serve to kick the spending can down the road. To have no upper limit long term can come back to hurt the US dollar and those that use it for purchases. Creating a strict upper limit serves to provide fiscal restraint but may stand in the way of economic stimulation. A government with its spending hands tied may find it problematic in times of war or other crises.

As the Secretary of the Treasury postpones payments or debt issuance, this has in the past not saved money, it has only delayed acquiring it through borrowing.

Depending on how intense the game of chicken becomes in the halls of Congress, the debt, equity, and Forex markets could become tumultuous.

Paul Hoffman

Managing Editor, Channelchek

Debt Ceiling Season Could Derail Market Momentum

Posted on by aweinsoff@channelchek.com
Image Credit: Gotta Be Worth It (Pexels)

The Old Congress May Rush to Push Through a Debt Ceiling Agreement

Will there be a government shutdown as Congress grapples with debt ceiling issues?

Only Congress can spend money, so it is the job of Congress to set the upper limit if the nation may decide to go into debt. It is tricky most years, as the process often threatens the government shutdown of non-essential workers. Emergency spending measures often are used before an agreement is passed, before doing any further damage. The most damaging would be to the global faith in the U.S. Government to make do on its debts. Most U.S. Treasury securities are refinanced by reissuing new debt issues. If new debt issues can not be increased to cover today’s higher interest rates, or other increased levels of budgeted spending, the nation faces severe economic trouble.

Treasury Secretary Janet Yellen warned this weekend that lawmakers’ failure to raise the statutory limit on U.S. debt posed a “huge threat” to America’s credit rating and the functioning of U.S. financial markets.

Yellen said that cooperation is still possible between the two major political parties on other financial priorities, but lifting the debt ceiling is a non-negotiable item on the list.

Both parties always jockey for position to get funding for their projects as the country and government workers reel from the negotiation process each year. Currently, U.S. public debt stands at $31.2 trillion. Without an increase, it’s expected that there will be a default crisis by the third quarter of 2023.

Republicans tend to pay more lip service to making spending cuts. In 2010, a Republican lead Congress tried to hold the line on raising the budget risking a possible default on U.S. Government backed securities. The uncertainty over whether the U.S. could fund maturing U.S. Treasuries prompted a first-ever ratings cut on Treasury debt by Standard and Poor’s.

Yellen was asked whether Democrats, who will be in a weakened state after the new Congressional leaders take office in January,  should pass legislation in the post-election session, while they still hold a majority.  “I think it’s irresponsible not to raise the debt ceiling. It’s always been raised,” Yellen said. “It would be a huge threat to the country not to do it, and completely irresponsible to threaten the credit rating of America and the functioning of the single most important financial market.”

One of the higher priorities that Republicans would want to chop from the budget is the $87 billion in new funds the President wants for the IRS.

Yellen reminded that some Republicans backed last year’s infrastructure act and this year’s investments in semiconductors and research, she suggested the administration would look for measures that could draw further bipartisan support.

Take Away

Each year the U.S. Congress grapples with spending and financing the spending. The financed part, involves Congress providing enough money for the budgeted items. As interest rates rise, they become one more expense to be budgeted for and generally financed.

Janet Yellen, speaking at a G20 meeting in Indonesia warned of the need to lift the debt ceiling, as not doing so would have devastating economic impacts.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://budget.house.gov/publications/fact-sheet/debt-ceiling-explainer#:

https://www.g20.org/about-the-g20/

https://www.reuters.com/world/us/exclusive-split-congress-odds-increase-yellen-warns-need-lift-debt-ceiling-2022-11-12/