The impossible debt ceiling rollover

Posted by John McDermott on Jun 22 14:57. 1 comment | Share


In which UBS slaps down anyone foolishly phlegmatic enough to think the US could miss the August 2 “deadline” for raising the debt ceiling, and escape unscathed.

The note, surely pitched for FT Alphaville, More…

In which UBS slaps down anyone foolishly phlegmatic enough to think the US could miss the August 2 “deadline” for raising the debt ceiling, and escape unscathed.

The note, surely pitched for FT Alphaville, is entitled “What’s the Worst That Could Happen?”

UBS is not of course predicting that the US will do anything as silly as send the global economy into further sovereign debt turmoil. But as every good scout knows, it’s important to be prepared.

It first goes into some political reasons why brinkmanship could lead to disaster. GOP congressmen are keen to avoid a repeat of the government shutdown debacle, where $38bn of cuts somehow became $352m. And they can just about claim the public is on their side — 47 per cent of voters oppose a debt ceiling raise, according to Gallup. Social security payments will also have been made by August, limiting the annoyance of the constituency most likely to vote.

Then it comes to those overly sanguine assumptions about interest payments:

The mistaken view that interest payments to US Treasury-holders could easily be prioritized, avoiding default indefinitely. This view requires that investors willingly roll over their holdings of Treasury debt and does not take into account the sharp increase in interest rates that may result.

And here comes the important reminder: it’s one thing to pay interest payments but it’s another to ask holders of the T-bill of doom and other bonds to rollover.

If the debt limit debate goes unresolved beyondAug. 4, the US Treasury would need to roll over maturing Treasury bills but would be unable to pay the interest on those that have matured (see chart, p. 1). Investors are unlikely to remain willing to roll over their holdings of Treasurydebt indefinitely under these conditions. The liquidity event would not belimited to the Treasury market. Some holders of Treasury bills who requiredthese funds near the maturity date could face significant cash pressures ifexpected payments do not materialize. These borrowers could be forced toborrow funds in upset credit markets.

It pains us to say it, but over to you, again, Washington.

Related links:
The T-bill that broke America’s credit [updated] – FT Alphaville
Supply and demand under the debt ceiling, then and now – FT Alphaville
Delaying a US default 101 – FT Alphaville
House GOP Digs In on Debt Ceiling – WSJ

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