Unlimited Debt Ceiling

By Marius-Cristian Frunza
Weekly Briefs

The US Senate approved extending the nation's debt limit through early December. The financial markets applauded the deal, the leading stock indices showing optimism after the vote. This extension is buying time but does not solve the rampant debt problem. What is the worst-case scenario? What if the US defaults on its debt?

Over the past months, Secretary Janet Yellen and other Treasury representatives have expressed concerns to Congress about the unforeseen events of not raising the debt limit. The current US outstanding public debt accounts for USD 28.7 trillion. The unfunded liabilities of Medicare and Social Security top up the US liabilities to a grand total representing over  USD 156 trillion. The Treasury Department required from Congress a supplemental credit line of USD 480 billion USD until December 3. What will happen in December?

The central narrative is that the US has never defaulted on its public debt. Such an event would generate havoc on financial markets and trigger an unprecedented global economic crisis. The account is partially valid, the US failing to pay liabilities on a few occasions in the past. Such an event took place in 1971, after the end of the Bretton Woods Agreement. The U.S. government did not respect its commitment to redeem dollars held by foreign governments for gold. The failure to respect that commitment opened the gate to the unlimited printing of dollars by the Federal Reserve.

The current situation is no different from what happened 50 years ago. While a technical default can severely damage the global banking system, a failure to pay might even be helpful. No other convertible currency can replace the US dollar as a global currency. The US is the biggest global consumer market for products and services. Therefore, no other country, including China will win in the event of a US default.  

The US Treasury has a simple choice. On the one hand, they can continue increasing the debt limit and printing currency to avoid default but bearing the risk of devaluing the US dollar. On the other hand, they can limit the debt, stop printing and fail to pay certain liabilities. The last option can be more advantageous as it offers a better chance to preserve the US dollar's position. Defaulting on debt is part of the art of the deal. Sometimes a default brings in the long term more benefits to both creditors and debtors.

Here's the perversity of Wall Street's psychology: The more Wall Street is convinced that Washington will act rationally and raise the debt ceiling, most likely at the 11th hour, the less pressure there will be on lawmakers to reach an agreement. That will make it more likely a deal isn't reached. Andrew Ross Sorkin, New York Times financial journalist

Market overview

The US labour department’s latest numbers show that the American economy has only created 194,000 jobs in September. With more than 11 million vacancies, there is an evident workforce supply shortage, hindering economic recovery. Analysts were expecting 500,000 new jobs, which if hit would have eased out the foreseeable taper decision from the Federal Reserve. As a result, job figures eroded market indices’ initial momentum after the debt ceiling vote.

Cryptocurrencies:

Bitcoin

Bitcoin’s price is moving north amid the increase in the US debt ceiling vote. The leading cryptocurrency climbed above USD 55,000, the highest level recorded since May.

An increased likelihood of an exchange-traded fund (ETF) approval by the US regulator bolstered the enthusiasm. Wall Street believes that after years of pushing back and forth, it is highly likely that a Bitcoin ETF backed by futures contracts will get the green light this month. Some are even excessively optimistic, believing that a spot product can get approval. Bitcoin seems back on track, and if ETFs become a reality, the crypto-community can witness in 2022 what is expected since 2016: a Bitcoin above USD 100,000.

Commodities:

Gas

Gas prices boomed last week in Europe, prefiguring a massive energy crisis through the winter. With Russia being the main gas supplier for European countries, the climb of gas prices can easily trigger an aggravation of the political crisis between Moscow and Brussels. November contracts at the Dutch TTF hub, the leading European benchmark for natural gas, were trading last week as high as 130 euros per megawatt-hour (MWh). The front-month contract has increased three times since the end of the summer. The British energy market is also suffering. In addition to the gas crisis, the UK faces an unprecedented fuel crisis due to disruption in the supply chain.

Market outlook

The Dow Jones Index ended the week on a positive note, ending the last trading session above 34,700. The temporary extension of the debt ceiling buys some time, but the long term perspectives expose investors to above-average risk.

Bitcoin’s price hovered near 56,000 USD, finding a second wind after a period marked by losses. The perspective of a tighter monetary policy for the main fiat currencies brings more traction to cryptocurrencies.

The energy crisis triggered by a bubble in power, gas, and coal prices impacts oil prices. Thus, there are sound reasons to believe that Brent could climb above 100 USD before the end of the year.

The Gold ounce continues to surf around the 1,760 mark.  Nevertheless, if the Fed's announced bonds tapering is confirmed, the gold ounce could move back into the green.

General Disclaimer

The information and data published in this research were prepared by the market research department of Darqube Ltd. Publications and reports of our research department are provided for information purposes only. Market data and figures are indicative and Darqube Ltd does not trade any financial instrument or offer investment recommendations and decision of any type. The information and analysis contained in this report has been prepared from sources that our research department believes to be objective, transparent and robust.