Default Lines

There’s still no political agreement to avert a Treasury default and so the possibility, however remote, is inching closer. What are the risks? Well, the floor is wide open for discussion–no one’s really sure where we’re headed because we’re in uncharted waters when it comes to Treasury defaults. Sort of. Donald Marron at the Tax Policy Center writes: “Actually, the United States Has Defaulted” by way of a brief, limited episode of default in 1979 on some T-bills. Meantime, what are your biggest concerns for the crisis du jour? Unsure? Not to worry as pundits have assembled an abundance of doomsday scenarios. Should you be worried? Yes. Why? Well, consider what our so-called leaders have produced so far–an unnecessary and entirely avoidable crisis that puts the US economy at risk. How much confidence should we have for expecting enlightened leadership to suddenly return in the days ahead? When you’re in the back seat of a car with a drunk driver who’s managed to avoid running off the road so far, it’s wise to reserve judgment on the outcome of the trip. As for pondering the worst-case scenarios, here’s my short list for thinking about the future if the unthinkable becomes reality:

The GOP’s Flirtation With Disaster | Alan Blinder | The Wall Street Journal | 10.10.13
First, the Treasury would have to pay somewhat higher interest rates on all future borrowing, perhaps for decades, maybe forever. By the way, that might happen even if we meet all our interest and principal payments and default—yes, that is the right word—on some other obligations.
Second, the global financial system would begin a frantic search for a new international currency. U.S. Treasurys have long served that purpose. But if international investors see Treasurys as potential political pawns, they will seek something safer. Since there is no obvious replacement, a world-wide financial panic along 2008 lines is possible.
What’s the worst that could happen? 7 debt-default doomsday scenarios | | 10.10.13
One chilling data point: American banks own $1.85 trillion in various government-backed debt, Dick Bove, at Rafferty Capital Markets, calculated.
The effect, then, of a default on that debt would be devastating.
“If the Treasury and related securities were in default, one does not know what they would be worth,” Bove said in a report for clients. “Assume a Latin American valuation of 10 to 20 cents on the dollar and an estimated $1.28 trillion in U.S. banking equity would be wiped out.”
The potential result?
“It is my strong belief that a true default by the United States Treasury would wipe out bank equity,” he said. “All bank lending to the private sector in the United States would stop, immediately. Existing loans would not be rolled over. Immediate repayment would be demanded.”
How a Treasury Default Could Trigger a Money Market Meltdown | MoneyBeat | 10.9.13
If, God forbid, the U.S. Treasury is forced to default on its obligations next week, the first ripples in a rapidly expanding financial crisis will be felt in an obscure but giant sector of the short-term credit markets.
There, in the $5 trillion-a-day repo market – more formally known as the securities repurchase market – Treasury securities are treated as the equivalent of currency. In tapping it, large Wall Street dealer banks work on the assumption that they can turn their inventory of U.S. government bonds into cash at any given moment, simply by offering the bonds up as collateral to money-market funds and other lenders that participate in this giant short-term funding market. If for just one of those securities this liquidity is turned off, those assumptions go out the window. The ramifications are enormous.
“All of a sudden, people will have to reevaluate their liquidity positions and this can quickly turn into panic,” says Lou Crandall, an analyst at market research firm Wrightson ICAP LLC.
Recession Looms If Treasury Uses Tools to Prevent a Default | Bloomberg | 10.9.13
The U.S. Treasury has the means to avoid a debt default even if Congress fails to raise the government’s $16.7 trillion borrowing limit. The bad news is that it can’t prevent a recession
Economists at Goldman Sachs Group Inc., IHS Inc. (IHS) and BNP Paribas SA said they expect the Treasury to husband the tax money it collects to make sure it can meet interest payments on the nation’s debt. Other obligations, from salaries of government workers to payments to defense contractors, would face the ax. The result: $175 billion less in government spending during November alone, said Goldman’s Alec Phillips in Washington.
“The cutting would be so huge it would put the U.S. back into recession,” said Jim O’Neill, former chairman of Goldman Sachs Asset Management who is now a Bloomberg View columnist.