The cost of insurance against the US failing to repay its debts rose to its highest level since the financial crisis last week, as traders worried that political deadlock in Washington might lead to a default.
One-year government credit default swaps traded at 106 basis points Saturday – the most expensive they’ve been since 2008, according to a Financial Times report that cited Bloomberg data.
The price of one-year government CDSs has spiked 15 basis points in 2023 with traders spooked by the looming threat of a debt-ceiling crisis, the FT reported.
The debt ceiling is a limit on how much the government can borrow, set by Congress. The US hit its $31.4 trillion debt limit in January – and that means it could run out of money to pay its bills as soon as July if lawmakers don’t vote to raise the ceiling, according to the Congressional Budget Office.
Everything will be settled without a big problem for investors, predicts Robert Hunkeler, International Paper’s vice president of investments.
“I guess Congress and the White House will eventually finish their game of chicken, and the debt limit will be raised,” he opines. “There might be a little more drama and brinksmanship this time around, because there are more cooks in Congress than usual, and that’s saying a lot. Either way, I wouldn’t change my investments because of it.”
To Kostin and his Goldman staff, the risk that Congress fails to boost the debt limit by the deadline is “higher than at any point since 2011,” but “the team believes it’s more likely that Congress will raise the debt limit before the Treasury is forced to delay scheduled payments.”
If the debt ceiling is not raised in time to make those payments, in Goldman’s estimate, the economy would shrink by about $225 billion per month, or 10% of annualized gross domestic product. That’s provided that the Treasury does what policy wonks call, “prioritize,” meaning somehow continuing to pay interest on the national debt, but to stop payment on other obligations.
For Thomas Swaney, CIO for global fixed income at Northern Trust Asset Management, another credit downgrade for the government is possible.
“The practical implications of a credit downgrade are not entirely clear,” he writes in a report. “But we don’t expect a modest downgrade to result in market disruptions for Treasuries, U.S. agency debt or overnight repurchase agreements.”
Previous studies (e.g. Guiso et al. 2006, 2009) have used aggregate survey data from Eurobarometer to show that the volume of flows between pairs of countries is importantly affected by bilateral trust. A limitation of such country-level evidence is that average levels of trust are almost certainly correlated with unobserved characteristics of country pairs. To rule out confounding factors, we therefore develop a bank-specific measure of trust.
For this purpose, we model banks as hierarchies (as illustrated by Figure 1). Strategic decisions such as whether or not a bank should invest in a country are generally taken at bank headquarters. Portfolio managers working in the headquarters country or elsewhere are then responsible for implementing those decisions. Because we are concerned with investment decisions undertaken by headquarters, we focus our analysis on the extensive margin of sovereign exposures – whether or not a bank invests in the bonds of a country, as opposed to exactly how much it invests.
Given this framework, cultural stereotypes in subsidiaries can shape the soft information that subordinates transmit up the hierarchy to headquarters, where the broad parameters guiding portfolio investment decisions are set. They can affect how that soft information is received by directors, because the latter share the same stereotypes, reflecting the extent to which banks hire and promote internally across borders, such that the composition of bank boards and officers reflects the geography of the bank’s branch network. We provide empirical support for this framework by showing that multinational branch networks help predict the national composition of high-level managerial teams at bank headquarters.
Most recently, the U.S. defaulted on Treasury bill payments in 1979 shortly after Congress raised the debt ceiling. According to the Congressional Research Service analysis: “In late April and early May 1979, about 4,000 Treasury checks for interest payments and for the redemption of maturing securities held by individual investors worth an estimated $122 million were not sent on time. Foregone interest due to the delays was estimated at $125,000.” The default was due to technical problems and was cured within a short period of time.
The claim that the United States has never defaulted, despite its frequent repetition, is not strictly true. Officials could make more modest and qualified claims such as “aside from a relatively minor operational snafu, the United States has not defaulted in the post-World War II era.” Such a claim lacks the power of a more sweeping generalization, but at least it’s accurate. If President Joe Biden and Treasury Secretary Janet Yellen want to seem credible, they should avoid making historic statements that are easily refuted by a small amount of Googling. If they cannot be believed about the basic reality of the federal government’s credit history, how can we believe what they say about current policy choices?
The sovereign issuer-based default rate rose to a record high in 2020 against a backdrop of weakened sovereign credit profiles due to the Covid-19 pandemic, Fitch Ratings says. Downgrade pressures have eased this year, but our ratings indicate that more defaults are possible.
Fitch’s recent Sovereign 2020 Transition and Default Study shows that five Fitch-rated sovereigns defaulted in 2020, up from only one in the previous year. As a result, the sovereign default rate rose more than threefold to 4.2% from 0.9% in 2019. The previous high was 1.8% in both 2016 and 2017.