Debt Ceiling - A Spectator Sport
The debt ceiling spectacle has already broken the bills market-- but everything else seems to be humming along. Plus, why the key to a debt ceiling deal may lie with permitting reform.
Market theater
The great benefit of theater, political or otherwise, is that we get a glimpse of the emotions and consequences of tragic actions without having to live with the consequences. Well-executed, tragedy excites “pity and fear” and provides the spectator with “catharsis.” I am parodying Aristotle here, but I find the canonical theory of tragedy provides a great guide for spectators of the current happenings in Washington, D.C.
And so it is with the debt ceiling— with all actors faithfully playing their parts, the financial system is gripped by pity and fear, in particular in the short-end of the Treasury market where a default would be most impactful. As you can see in the chart below, and despite rumours of a Fed pause, both the government’s 4-week and 8-week bills now trade outside the Fed’s policy limits for the Federal funds rate.
Source: U.S. Treasury, FRED
This much is to be expected. When the former president of the United States goes on TV arguing that “you have to do a default,” and the Treasury is a few weeks away from running out of cash, it is not unreasonable for markets in short-term U.S. debt to get spooked and trade at a discount. But what is remarkable is that the impact on other markets, including other fixed income, is nowhere to be seen.
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