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Debt Ceiling Congressional Chicken and How the Fed Might Respond

Republicans and Democrats are playing "Debt Ceiling Chicken". The Fed has an emergency plan on deck.
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When is the X Date

Emergency Playbook

It is my strong opinion that either the Republicans or Democrats will blink (most likely the Democrats), but let's take a look at the Fed's Emergency Playbook in case I am wrong.

A crisis-management playbook Federal Reserve officials created years ago could guide their response this fall if the federal government can’t pay all its bills because of a political standoff over raising the federal debt limit.

The options include the Fed buying Treasury securities in default on the open market and selling Treasurys owned by the Fed to counteract potentially severe strains in financial markets, according to the transcript of an October 2013 conference call.

Among the officials who said those steps shouldn’t be ruled out were Jerome Powell —the central bank’s current chairman who was then a Fed governor—and Janet Yellen —the current Treasury secretary who was then Fed vice chairwoman.

Mr. Powell called some measures “loathsome” and others called them “repugnant” or “beyond the pale” for two main reasons. First, they would pierce the Fed’s institutional preference to avoid directly financing the government, often referred to as its independence from fiscal policy. Second, Fed officials worried if such contingency planning became public, elected officials might feel less urgency to raise the debt limit.

“These are decisions you really, really don’t ever want to have to make,” Mr. Powell said on the call. “The institutional risk would be huge. The economics of it are right, but you’d be stepping into this difficult political world and looking like you are making the problem go away.”

Debt Ceiling Deja Vu

I discussed this setup in detail, but not the emergency plan, on September 22 in Another Debt Ceiling Non Crisis Deja Vu Or Does This One Matter?

Congress and the White House have changed the debt ceiling almost 100 times since the end of World War II, according to the Committee for a Responsible Federal Budget. 

Time On the Clock

The US will not turn into a pumpkin on Oct 1. Moody’s “best estimate” is October 20. 

There might even be more time.

X Date Range

The Bipartisan Policy Center has this projection.

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  • If policymakers do not act on the debt limit, Treasury will most likely have insufficient cash to meet all its financial obligations sometime between October 15 and November 4 (what we call the “X Date”)
  • Due to the unpredictability of cash flows—and thus, all debt limit projections—policymakers need to act in the coming weeks if they intend to ensure that all obligations of the U.S. government are paid in full and on time  
  • After running out of cash, Treasury will be unable to meet approximately 40% of all payments due in the several weeks that follow.
  • October 1 is a particularly difficult date for federal finances due to a large payment that is owed to the Military Retirement Trust Fund, among other large benefit payments also owed that day. This day will significantly drain Treasury’s cash reserves.

October X Date Calendar 

X Date Calendar October

November X Date Calendar 

X Date Calendar November

The date notations represent payments that can be withheld before a default would occur. 

I believe this is nothing but an exercise in theory and it will all be resolved in the first week of October if not this week. 

We have not crossed the X Date before and this will not be the time either.

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