{"id":189689,"date":"2023-05-03T10:45:00","date_gmt":"2023-05-03T14:45:00","guid":{"rendered":"https:\/\/ibkrcampus.com\/?p=189689"},"modified":"2023-05-03T10:38:08","modified_gmt":"2023-05-03T14:38:08","slug":"debt-ceiling-debate-examining-risks-around-the-x-date","status":"publish","type":"post","link":"https:\/\/www.interactivebrokers.com\/campus\/traders-insight\/securities\/macro\/debt-ceiling-debate-examining-risks-around-the-x-date\/","title":{"rendered":"Debt Ceiling Debate: Examining Risks Around the X Date"},"content":{"rendered":"\n

By Libby Cantrill<\/a>, Jerome Schneider<\/a> and Tiffany Wilding<\/a><\/p>\n\n\n\n

Debt ceiling concerns are rippling through financial markets. We discuss the potential risks and opportunities for investors.<\/strong><\/p>\n\n\n\n

We anticipate progress on the U.S. debt ceiling, and while there may be volatility in markets in the interim, we nevertheless expect a resolution, although possibly not until the eleventh hour.<\/p>\n\n\n\n

As we write this, the House of Representatives has passed a bill that will be dead on arrival in the Senate, and President Joe Biden has said he would veto it anyway.<\/p>\n\n\n\n

Still, while the bill \u2013 and the associated spending cuts and rollback of the Inflation Reduction Act \u2013 are merely symbolic and have no chance of becoming law this Congress, we nevertheless view its passage as an important first step to more formal negotiations among the House, the Senate, and the White House to ultimately reach a deal.<\/p>\n\n\n\n

The timing is also important. With U.S. Treasury funding needs tracking somewhat higher than they were this time last year, the so-called X date \u2013 the estimated date when the Treasury can no longer pay its bills \u2013 may well arrive sooner than the July to September timeline estimated<\/a> by the Congressional Budget Office. This is important for markets because it could also pull forward the acute phases of the political volatility, which in the past has coincided with elevated volatility in equity and bond markets.<\/p>\n\n\n\n

Avoiding default still our base case \u2013 with high conviction<\/h2>\n\n\n\n

A debt ceiling deal continues to be our base case \u2013 with high odds \u2013 meaning that while a technical default is possible (as is the case whenever Congress is obligated to increase the country\u2019s debt limit), we think such a catastrophic outcome will be avoided for the very reason that default would be catastrophic, not just for the for the markets and economy, but also politically<\/em>.<\/p>\n\n\n\n

After all, 2023 is not 2011. In 2011, the Tea Party and political support for spending cuts were at an apex; Republicans had a significant majority in the House, negotiating from a position of strength; and they were dealing with President Barack Obama, who was open to fiscal reforms. None of this is the case now, plus more than 70% of Americans support avoiding a default even if there are no spending cuts (see poll data here<\/a>). In other words, default is not a political winner, and everyone in leadership \u2013 on both sides of the aisle \u2013 realizes this.<\/p>\n\n\n\n

Although we are confident that a resolution will occur before the debt ceiling deadline, the timing and the composition remain to be seen. If past is prologue, we believe it will likely happen at the eleventh hour and only after some brinksmanship (as one senior staffer noted: Some members of Congress may have to touch the hot stove before agreeing to a resolution).<\/p>\n\n\n\n

The likely contours of a deal may<\/em> consist of 1) suspending or outright raising the debt ceiling \u2013 ideally in a way that pushes the next deadline beyond the November 2024 election; 2) including some form of the energy-permitting reform bill that President Biden supported last year \u2013 but was never brought up \u2013 which also would help their most vulnerable Democratic senator, Joe Manchin, who is up for reelection in 2024; 3) clawing back unused COVID-19 money; and 4) possibly creating a debt commission to look at the stickier and bigger parts of the growing U.S. debt, namely entitlements. Reinstatement of the tax credit for research and development or the imposition of spending caps may be on the table as well.<\/p>\n\n\n\n

The X date<\/h2>\n\n\n\n

While we expect a resolution, the timing is clearly affected by the X date, when the Treasury exhausts its emergency funding measures. The X date is always uncertain due to the inexact nature of tax collections and certain government payments, and this year, with the tax collections around the April 15 payment deadline running well below last year\u2019s levels, Treasury\u2019s funding needs have risen.<\/p>\n\n\n\n

Taking this and other factors into account, we estimate that Treasury\u2019s cash buffer will fall dangerously low ahead of June 15 \u2013 the scheduled date for quarterly corporate tax payments. As a result, we expect the Treasury will provide additional guidance soon \u2013 perhaps as early as next week\u2019s refunding announcement. This could also pull forward the acute phase of the political volatility, which is important for markets.<\/p>\n\n\n\n

Immediate market implications<\/h2>\n\n\n\n

We are already seeing market impact from the debt ceiling debate and the uncertainty regarding the X date as some investors shun Treasury bills ahead of any potential \u2013 albeit unlikely \u2013 default. Market and investment implications worth flagging:<\/p>\n\n\n\n