Editor’s note: Morning Money is a free version of POLITICO Pro Financial Services morning newsletter, which is delivered to our subscribers each morning at 5:15 a.m. The POLITICO Pro platform combines the news you need with tools you can use to take action on the day’s biggest stories. Act on the news with POLITICO Pro.
There’s never a good time for the U.S. government to be unable to pay all of its obligations, but this would be an especially bad year for that.
For one, the place where that debt is traded, the Treasury market, has already been under strain because of the Federal Reserve’s relentless interest-rate-hiking campaign. Rising rates make even recent lower-rated debt less valuable, so there are fewer buyers right now. Also, the market relies on a small number of large dealers to intermediate trading for a huge volume of debt, and they can only hold a finite amount of assets on their books at any one time.
These and other factors mean trading and pricing aren’t as smooth as they would ideally be, so U.S. officials are trying to reform how the market is structured to make it work better.
Since the Fed is still engaged in its battle against high inflation, it might be more hesitant to intervene and buy Treasury bonds to prop up the market, at least as dramatically as it otherwise would. That’s because buying bonds would run at cross-purposes with its efforts to slow down the economy.
So while markets have been through these showdowns before, notably in 2011, this time could prove more dangerous. Markets Policy Partners co-founder John Fagan, who led the Treasury Department’s markets room from 2014 to 2018, said the Fed is battle-tested. But “that’s the only factor I can think of that would be more favorable than last time around,” he said. “Everything else looks worse.”
The U.S. already reached its $31.4 trillion borrowing limit on Thursday, and the Treasury Department has begun using “extraordinary measures” to pay its bills.Liquidity problems probably wouldn’t get seriously worseunless the U.S. does actually go past the X date, when it is unable to meet all its obligations, according to people MM spoke with. Fagan said this is historically a political dilemma for Treasury, including while he was there: “It wasn’t doing the Democrats a lot of favors for markets to be laughing this off … when, in reality, it’s just the markets assuming it’s not going to be a problem.”
“Almost by definition it’s really hard to sit in an investment meeting and say, ‘We’ve got to bring down risk and really change our portfolio strategy and do countermeasures and change the way we’re investing based on this low-probability, high-impact risk.’”
But if Congress doesn’t raise the debt limit in time, the Treasury market could start looking more like it did in spring 2020, said Stanford University Professor Darrell Duffie, who has done extensive work on government debt markets. (Your MM host tried to explain what happened to Treasuries at the onset of the pandemic in plain English here, but suffice it to say, we nearly had a financial crisis).
“Some investors in Treasuries bought them because they’re supposed to be perfectly safe and some of those people will try to sell them,” he said. “At some point, [dealers] may not be able to handle all of those demands.”
In the meantime, regular companies that invest in Treasuries mostly expect this to be resolved in time but for there to be choppiness in the meantime, said Michael Dombrowski, corporate treasury adviser at finance automation platform Rho. They might even be looking to capitalize on any mispriced Treasuries.
But his clients would rather see the situation resolved. “It’s causing them undue stress, and they should be keeping their eyes on the ball on other parts of their business,” he said.
Have a great weekend — Please keep sending tips to [email protected].
Fed Governor Chris Waller discusses the economic outlook at the Council on Foreign Relations at 1 p.m. … The Peterson Institute launches a new book by Olivier Blanchard on the outlook for fiscal and monetary policy at 1 p.m. …
Exclusive: Senate Republicans press Gensler to show work on market structure revamp— Five Senate Republicans led by Thom Tillis are calling on SEC Chair Gary Gensler to provide the research and analysis to justify the equity market overhaul the agency is proposing. They warned Gensler in a letter that the plan could pose “grave harm” to investors and the U.S. economy, and asked why the agency hasn’t conducted a “comprehensive cost-benefit study” of the combined rules. The lawmakers on the letter include Sens. Bill Hagerty, Mike Crapo, Cynthia Lummis and Kevin Cramer.
First look: The economic view from the White House— National Economic Council Director Brian Deese has a blog post this morning detailing the aspects of the U.S. economy that improved over the first two years of the Biden administration. He outlines why White House policy wins have set the stage for “durable, resilient, and inclusive long-run growth.”
One of the closing lines nods to the upcoming debt ceiling fight. Deese warns of “a range of economic risks — from geopolitical uncertainty to the potential for reckless extremism around the full faith and credit of the United States.”
Inside the White House debt limit thinking, courtesy of our Ben White — Senior White House officials tell POLITICO they are not freaked out by the U.S. breaching the debt limit.
They know an actual default would crush markets and the economy and derail President Joe Biden’s expected reelection bid. But they say it’s not a huge focus right now. And West Wing aides think Republicans have an extraordinarily weak political hand when it comes to the borrowing cap issue.
“The media wants to turn this into a central, daily issue for us,” one top White House aide said Thursday. “It isn’t. There’s five months until the debt limit expires, probably more. In the history of debt limits, there’s never been a resolution until the end.” The official added that “you never know the mechanics until the end.”
— For now, the White House has a troika of officials leading the debt limit strategy: Treasury Secretary Janet Yellen, Deese and legislative affairs director Louisa Terrell.
They ultimately expect a deal with little or nothing in the way of big spending cuts. For now, the three meet once a week in White House Chief of Staff Ron Klain’s office to go over economic logistics and political strategy.
— In the White House’s view, Republicans are on very poor political ground. Unlike 2010, they scored no big mandate for spending cuts in the 2022 midterms. Republicans raised the debt limit repeatedly under President Donald Trump without spending reductions.
Democrats plan to continue reaching out on the debt limit to more moderate Republicans from districts Biden won in 2020 and will hammer the GOP in general over the issue.
“What we are going to focus on is their plan,” the official said. “Not a philosophical debate about the debt limit, but hey, if they want to hold it hostage, hold it hostage for what? For slashing Social Security? For slashing Medicare? For slashing education? For slashing national defense? That’s the focus. That’s what will shift the debate.”
For your X date calculations — Steven Kelly, senior research associate at the Yale Program on Financial Stability, has found $14 billion “parked uselessly on the Fed balance sheet” that Treasury could use as headroom to avoid a default.
The latest from Davos –
— Scaramucci isn’t giving up on crypto — POLITICO’s team in Switzerland has a deep dive into the push by Anthony Scaramucci to convince investors and potential backers that everything is just fine in crypto land despite the industry’s collapse.
— Joe Manchin faces Europe’s wrath— We also have a look at Sen. Joe Manchin’s Davos visit, where he’s been determined to change the minds of Europeans who are furious about the U.S. clean-energy subsidies and American manufacturing support he helped turn into law.
The SEC crackdown continues— Crypto lending platform Nexos agreed to pay $45 million to settle charges that it broke securities laws. “Compliance with our time-tested public policies isn’t a choice,” Gensler said in a statement announcing the settlement.
New FTX management weighs reboot— The Wall Street Journal scooped Thursday that FTX CEO John Ray III is looking at the possibility of reviving the bankrupt crypto exchange as he tries to return money to customers and creditors. “There are stakeholders we’re working with who’ve identified what they see is a viable business,” he said.
PCAOB sued over ‘unaccountable’ prosecutions — The nonprofit New Civil Liberties Alliance sued the Public Company Accounting Oversight Board late Thursday, targeting what it called “secret, unaccountable, and inherently biased prosecutorial processes.” PCAOB spokesperson Jennifer Donohue said in a statement that the audit watchdog is “laser focused on protecting investors.”
HUD revives discrimination rule — The Biden administration renewed a push to require cities to address patterns of residential segregation, revamping a regulation that former President Donald Trump scrapped, our Katy O’Donnell reports.
Consumer advocates want SEC to act on credit ratings agencies — From Declan Harty: Eleven academics and investor advocates from groups like Better Markets, the Consumer Federation of America and Americans for Financial Reform are pressing the SEC to beef up the accountability of credit ratings agencies.
Housing woes weigh on mayors— POLITICO: “Red states, blue states, big cities, small towns — mayors from across the country this week are venting about their struggles to address a housing affordability crisis and increase in homelessness.”
JPMorgan rules out ‘special’ bonuses for Dimon — FT: “JPMorgan Chase said it would not give longtime chief executive Jamie Dimon special awards ‘in the future’ following investor pushback to a $50mn award last year.”
People moves — Kathleen Mellody has joined JPMorgan Chase as head of federal government relations. She previously helped lead government relations for the Investment Company Institute and held roles in the Obama White House and at the Treasury Department.