Tom Wald, CFA®, Chief Investment Officer, Transamerica Asset Management, Inc.
President Joe Biden and House Speaker Kevin McCarthy and their respective negotiating teams have reached an agreement to suspend the nation’s $31.4 trillion debt ceiling until January 2025. If approved by both chambers of Congress in the days ahead, this paves the way for the U.S. government to avoid a default on U.S. Treasury bills, notes, and bonds, as well as for government-funded programs ranging from Medicare to Social Security.
Pertinent points for investors to consider include the following:
We would view this announcement as a highly favorable development for the equity and credit markets as the looming and increasing tail risk of a government default had created a cloud over the markets and presented the first measurable threat to scheduled U.S. Treasury debt principal and interest payments since the nation’s founding.
In the final days of negotiations, the two sides were able to come to agreement regarding highly contentious conditions, including, and resulting in, caps on discretionary spending, increases to defense spending, new work requirements for food assistance programs, reduction in new Internal Revenue Service funding, and a claw back of currently unused COVID-19 relief funds.
It is important to realize that although this agreement (written as the “Fiscal Responsibility Act of 2023”) has considerably mitigated default risk, that risk will not be fully eliminated until the agreement passes the House and Senate and signed into law by President Biden prior to June 5, the most recently estimated deadline put forth by Treasury Secretary Janet Yellen as the date upon which the Treasury Department would fall short of cash to meet its obligations.
At the current time, passage by both the House and Senate looks to be a strong probability due to rank-and-file bipartisan support in both parties. However, it is not a certainty, as both progressive Democrats and conservative Republicans have voiced opposition. While President Biden and Speaker McCarthy are currently at work seeking to shore up necessary support, drama could still be at hand regarding final tallies as well as potential procedural tactics to delay voting.
Timing remains extremely tight as voting will likely take place initially in the House on Wednesday, May 31, following approval by the House Rules Committee on May 30, before moving on to the Senate the following day. If approved by both chambers, this will enable President Biden to sign the legislation into law over the weekend or earlier. This, in turn, will enable the Treasury Department to make payments by the June 5 deadline and the next upcoming U.S. Treasury Bill maturity date of June 6.
The agreement calls for the debt limit of more than $31 trillion to be suspended but not technically increased. This means additional debt can be taken on by the U.S. Treasury with a higher amount reset to a new limit at the next scheduled debt limit adjustment deadline of January 1, 2025, occurring after the November 2024 presidential and congressional elections.
In the upcoming few days, markets and the political world are set to intersect and with the highest of stakes in the balance. While the good news is now that an agreement on the suspension of the debt ceiling has been reached, thereby materially mitigating the tail risk of U.S. Treasury default, the better news will be its passage in Congress fully eliminating that risk.
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