As the government shutdown concerns exit stage left, the debt ceiling worries take center stage. By law, the debt ceiling will return on March 2nd, where it is expected to be set at the current level around $22 trillion. To the surprise of no one, political leaders are not expected to reach a quick resolution at the beginning of next month and Treasury Secretary Mnuchin will execute extraordinary funding measures, those measures should last until August or possibly September.
The bond market is already showing a dislocation on the Treasury bill curve with bills maturing on August 15th posting a yield of 2.502%, higher than the September 12th bill’s yield of 2.482%, suggesting when markets expect debt ceiling concerns to peak. Further disruptions on the curve could heighten concerns on liquidity and that is something the markets haven’t focused on since mid-2017.
The Treasury will need to see an end to tax season before they can know how long their extraordinary funding measures will last. Until then, we will likely see volatility pick up in the money markets and if we see investors avoid short-term debt and as the political debate will begin, concerns will raise for a technical default. The base case remains for Congress to reach an agreement on raising or keeping the debt limit stable in the summer, but the politics will keep this messy. Rating agencies will voice concerns on the debt level and risks to the U.S.’s AAA credit score will likely grow as the US lawmakers will struggle to reach a timely agreement.
If we see ugliness playout and an agreement on the debt limit seems less likely, risks will grow for the US to default, interest rates would rise, stocks would selloff and the dollar would plummet, with the yen being the biggest beneficiary. The doomsday scenario is unlikely, but it will be one of the more important risks the market will focus on once we are completely passed the government shutdown concerns and trade war.