In fact, unless something remarkable has happened while the UK was asleep, by the time you read this the debt ceiling has probably already been reached and, technically, the US is now bust.
Rise and fall
Each announcement about the protracted debt negotiations – between the Republican minority and the Democrats – is greeted by a fall in the S&P 500, while the run-up to any negotiations usually sees a rise in the S&P 500 as misplaced optimism kicks in to drive market direction.
For example, securities traded in New York rose in price in the days immediately leading up to last weekend, to then fall (as did US stock index futures) once the markets opened yesterday morning and an agreement had still not been reached.
The consequences of the US not finally reaching an agreement are not worth considering as the world’s largest economy not being able to pay back its debt is unthinkable.
Christina Lagarde, the IMF’s managing director, arguably played it down when she said it would result in “massive disruption the world over”.
She has been joined in expressing the drama of the occasion by the World Bank’s president, Jim Yong Kim, who described it as a “disastrous event”, should it occur.
So what?
What will the impact actually be if the deadline passes with no agreement?
Without giving the honest answer of “Nobody knows”, the immediate affect will be the US not being able to pay the principal on maturing bonds, nor the interest coupon on the bonds, nor its federal staff. The fact that the Grand Canyon will remain closed – really? – along with other tourist attractions will not matter one jot.
So what about the effect on markets?
John Greenwood, Invesco’s chief economist says: “[The last time Congress refused to extend the debt ceiling – Nov 2011] expectations of damage to economic activity caused a “growth scare”, prompting investors to sell equities and buy bonds – including Treasuries – as a safer alternative."
“The dollar even strengthened between August and October 2011," he added. "In short, the perceived safe haven qualities of US Treasuries and the currency won out over concerns about the creditworthiness of the US Federal government.
Stronger fundamentals
“A similar outcome is entirely possible on this occasion, although the better economic fundamentals of foreign economies make the currency more vulnerable this time.”
One huge consequence of any default will be a lack of confidence in the US and in the companies listed on its stock markets, with a knock-on effect on its ability to borrow.
Mark Stevens, head of intermediary services at Investec Wealth & Investment, says his firm’s asset allocation committee recently discussed the possibility of taking out insurance against any market “dislocations” – as it calls “devastation” – though is happy for now that it did not do so.
Investors not traders so…
Overall, the US debt default negotiations are a short-term market problem, with existing long-term investors ignoring the noise and maintaining their exposure, short-term traders selling out, and new investors waiting to see what will happen.
As with the deal struck in August 2011, the negotiations have been political and not financial. In August 2011, the Republicans and Democrats came to an agreement, raised the debt ceiling, the ratings agencies promptly downgraded the US – investors did not really flinch.
It will be the same this time round as Thursday’s deadline will arrive with an agreement in place and plenty of predictable headlines about cans being kicked down roads. The US is still a long-term investment.
