Wall Street Is Counting on a Debt Limit Trick That Could Entail Trouble
If the debt limit is breached, investors expect Treasury to put bond payments first. It’d be politically and practically fraught.
By Jeanna Smialek, Jim Tankersley and Joe Rennison, The New York Times, Jan. 30, 2023, 12:16 p.m. ET
Many on Wall Street believe that the Treasury Department, in order to avoid defaulting on U.S. debt, would “prioritize” payments on its bonds if it could no longer borrow funds to cover all its expenses. They expect that America’s lenders — the bondholders who own U.S. Treasury debt — would be first in line to receive interest and other payments, even if it meant delaying other obligations like government salaries or retirement benefits…
“Treasury systems have all been built to pay all of our bills when they’re due and on time, and not to prioritize one form of spending over another,” Treasury Secretary Janet Yellen told reporters earlier this month…
The government hit its debt limit on Jan. 19, and the Treasury Department has said that it can use temporary measures to keep covering expenses until at least June. After those are exhausted, the debt limit must be raised or suspended in order for the United States to borrow money to pay its bills…[end quote]
This article describes a game of chicken (or swan?) which could come to a head within 6 months.
Like the market’s determination to ignore the Federal Reserve’s predictions of interest rates, the market is determined to ignore the potential crisis…for the time being.
The 10-year Treasury futures contracts show that traders believe the yield of the 10YT will fall between March and June (since the price of the contract is higher for June than March). If the traders felt that a crisis was likely in June the price of the June contract would fall.
Are bond traders right to rather smugly assume that they will be paid off while retirees, disability beneficiaries and military personnel may be stiffed?
The risk of Treasury bond defaults would also affect the stock market. Even if this risk is low METARs should be aware of it.