The day after tomorrow represents the beginning of Washington’s debt-crisis end game, not the end of it.
The Treasury Department expects to exhaust its borrowing authority no later than Oct. 17, leaving the federal government with no more than $30 billion on hand. Depending upon daily tax receipts and incoming bills, the U.S. government could be forced to default on its obligations at any date thereafter -- to bondholders and millions of Social Security recipients.
President Barack Obama said yesterday the U.S. now faces “a good chance of defaulting,” a development that would have a “devastating effect” on the economy. Though that would roil financial markets and risk triggering a global recession, the full effect will take time to unfold. Oct. 18’s dawn may seem little changed from that of the day before.
“It’s not that you know there’s one date where the whole thing is going to go kaboom,” said Shai Akabas, a senior analyst at the Bipartisan Policy Center. “It’s that you have increasing risks, because we’ve never encountered this series of events in our modern history so we really don’t know what’s going to happen. But it’s fairly safe to say that the further we go without a resolution, the more the risks increase.”
The Bipartisan Policy Center, a Washington-based nonprofit research group, estimates that the Treasury will actually be unable to pay all the government’s bills on time at some point between Oct. 22 and Nov. 1. While the Treasury will probably be able to delay the true drop-dead date for a few days, it is unlikely to be able to do so beyond Nov. 1 because several large payments are due before then, the center says.
On Oct. 23, $12 billion in Social Security checks are scheduled to go out. A $6 billion interest payment on the national debt is due Oct. 31 and more than $55 billion in Social Security, Medicare, veterans benefits and military pay is slated for the first of the month.
The Treasury has the means to avoid a debt default by husbanding the tax money to cover interest payments on the debt, according to economists at Goldman Sachs Group Inc., IHS Inc., and BNP Paribas SA. Even so, that would require other government spending to be cut so deeply that a recession would follow, said Jim O’Neill, former chairman of Goldman Sachs Asset Management and now a Bloomberg View columnist.
Treasury Secretary Jacob J. Lew dismisses suggestions that he could prioritize payments, calling that strategy “default by another name.”
As the politicians squabble, some of those who depend upon government benefits are growing increasingly concerned. Margaret Hamilton, 88, a Tallahassee, Florida, retiree whose husband recently died, says she’s already started to cut back her spending in case Social Security checks are interrupted.
“We aren’t buying as many groceries. We aren’t buying as much gas. We aren’t buying as many art supplies,” she said during an art class at the Tallahassee Senior Center.
Financial markets so far are providing little impetus for politicians to settle their differences. U.S. stocks rose yesterday, with the Standard & Poor’s 500 Index adding 0.4 percent to reach 1710.14, close to a record high. Bond markets were closed for the Columbus Day holiday.
John Carey, a Boston-based portfolio manager at Pioneer Investment Management Inc., which oversees $200 billion in assets, says the Washington standoff has had no impact on his strategy.
“I haven’t made any changes,” he said. “My thought is they will reach some kind of agreement. An actual default? I can’t believe they would let that occur.”
Jack Ablin, who helps manage $66 billion in assets as chief investment officer with BMO Private Bank in Chicago, also says there is only a “remote” chance of default.
“I can’t think of one extraordinary step we’ve taken to guard against a default at this stage,” he said. “It’s not that we’re not watching it, just we think it’s probably an insurance policy that’s not worth taking out right now.”
While headline market indices have reflected calm, nervousness has been visible in other corners of the financial world. Yields on Treasury bills due Nov. 7 jumped to 0.24 percent on Oct. 11, from 0.8 percent a week earlier. A measure of credit risk, the one-month TED spread, turned negative for the first time since Bloomberg began collecting such data in 2001, meaning investors regard banks as a better credit risk than the U.S. government.
Corporate bond issuance also has slumped, with new debt averaging $18.6 billion a week over the past two weeks, compared with $47 billion in the preceding fortnight, according to data compiled by Bloomberg.
In previous debt crises, the Treasury has erred on the side of caution in gauging how long it can avoid disaster. During the 2011 debt ceiling showdown, Treasury Secretary Timothy F. Geithner said that the government would exhaust its borrowing authority on Aug. 2 and warned of “catastrophic economic and market consequences” if the debt limit were not raised.
A subsequent probe by the Treasury’s inspector general, however, found that the government actually wouldn’t have run out of cash until Aug. 11 -- nine days after its public drop-dead date.
The Treasury is selling $65 billion in 3-month and 6-month bills today and an additional $22 billion in 52-week bills tomorrow as it faces $120 billion of securities maturing Oct. 17. Another $93 billion matures on Oct. 24.
Lew told the Senate Finance Committee last week he’s concerned that investors in Treasuries might ask for their money instead of rolling over their holdings amid the current standoff.
“If U.S. bondholders decided that they wanted to be repaid rather than continuing to roll over their investments, we could unexpectedly dissipate our entire cash balance,” Lew said Oct. 10.
If the U.S. stumbles into a true default, the biggest impact could be seen in the stock market, says Mark MacQueen, partner and money manager at Austin, Texas-based Sage Advisory Services Ltd., which oversees $11 billion in assets.
“Riskier assets are going to be damaged a lot more than short T-bills,” says MacQueen. “The market is somewhat focused on the safer assets. In reality, it will ripple through the market and will be a lot larger in the riskier asset classes.”
In any event, the financial trauma will take time to materialize.
“We can definitely get to a Lehman or S&P downgrade kind of moment if we don’t get things under control,” says Brad Bechtel, managing director at Faros Trading LLC in Stamford, Connecticut. “It won’t happen straight away; it’ll be more like a slow train wreck.”