Wall Street investors are already taking evasive action to protect themselves against what would be an unprecedented economic shock: America defaulting on its debt for the first time in history.
The stock market has moistly remained calm despite the impasse in Washington over raising the debt ceiling — the limit on how much the federal government may borrow to pay its obligations. Yet the price of credit default swaps, which let investors hedge risk on U.S. Treasury bonds, has soared in recent days, a signal that investors see no clear path to a political resolution in the debt fight, according to John Canavan, lead analyst at Oxford Economics.
In another sign of the mounting concern in financial circles, market players are also dumping Treasury bills and other fixed-income investments that mature in June and July. Treasury Secretary Janet Yellen said on May 1 that the U.S. might be unable to pay its bills as soon as June 1, if Congress fails to raise or suspend the debt limit.
Canavan added that the Treasury market could see a “flight to safety” as June approaches, noting that investors took similar actions in the 2011 fight over the debt limit.
“Financial markets have taken previous close shaves on the debt limit in stride, but market participants are seeing greater political intransigence this time around, with both sides digging in their heels,” Canavan said in a report on Monday.
The U.S. hit the current debt limit on January 19, forcing Treasury officials to employ “extraordinary measures” to continue making payments and avoid a default. And the clock is ticking. President Joe Biden is scheduled to meet with congressional leaders on Tuesday to discuss the debt limit, but the House and Senate have only have two more calendar weeks this month when both chambers are in session.
Failing to lift the government’s borrowing limit could force the Treasury Department to delay a range of payments and interest — a technical default. But uncertainty over a solution in Washington is likely to disrupt financial markets even before the U.S. reaches the “X Date” — the day when the government would be unable to pay its debts.
On Saturday, 43 Senate Republicans signed a letter to Senate Majority Leader Chuck Schumer, vowing to oppose efforts to raise the debt ceiling without “substantive” cuts in government spending.
“Republican senators are threatening to single-handedly trigger default…this is no time for these senators to reverse their support for avoiding default without conditions,” a White House spokesperson said on Sunday.
Experts warn that a U.S. default on its debt, long considered one of the safest assets, could have devastating effects on the economy and ripple across the globe.
“An outright default would be a more disruptive event that could spark a sharp sell-off in stock prices,” UBS analysts said Monday in a research note. “Because a default would be unprecedented, the magnitude of the market decline is difficult to estimate, but we would expect it to be very meaningful.”
