Wednesday, April 19, 2023
With tax season (mostly) behind us, the U.S. Treasury Department will have a better sense of how much cash it has on hand and when it will run through the extraordinary measures it is currently employing to pay its bills. The Treasury is unable to issue net new debt (it can issue debt to replace maturing debt), so it is currently relying on accounting gimmicks to ensure continued payments. However, that can only work for so long. Right now, estimates for the so-called x-date, or the drop-dead date when Congress has to act, range from early summer to the fall, but the first key hurdle comes around June when there’s an additional influx of tax money and when it can also tap some additional accounting measures to continue to honor its debts. We will likely hear from Treasury over the next week or so on an updated x-date, but the conventional wisdom is that if Treasury can make it past that mid-June horizon, the debt ceiling likely won’t have to be raised until the end of July or August.
If the debt ceiling isn’t resolved in time though, the U.S. Government would technically default on its contractual obligations and the Treasury market is starting to price in, however remote, a chance of delayed payment. Treasury bills (t-bills) that mature in May are yielding around 1.2% less than t-bills that mature one month later (around June) and a record 1.49% less than t-bills that mature in July. As Treasury is likely able to make the May payment, investors have bid up the price of these securities seemingly at the expense of debt that matures around the expected x-date(s). While changing monetary policy expectations and a record amount of money in money market funds are also playing a role in the distortions, investors are likely demanding more to hold those securities at risk of delayed payment.
U.S. bond market investors have taken for granted the government’s ability and willingness to pay its debt. While its ability to repay its obligations is not in question, the debt ceiling debate complicates the country’s willingness to pay its debts. In 2011, Congress waited until the very last minute to fix the debt ceiling issues and S&P downgraded the country’s debt rating to AA+ from AAA because of the questions surrounding that willingness to pay its obligations. Now, another rating agency, Fitch, has threatened to do something similar if Congress fails to act soon. Another debt downgrade would likely be disruptive to financial markets. While we think Congress will act in time and get a deal done, these games of political chicken can introduce volatility to markets in the interim. For more information on the debt ceiling, check out our February 27 Weekly Market Commentary.
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