Disruptions in the debt markets from a U.S. government default would be minimized as long as lawmakers gave enough advance notice of which securities would be affected.
Treasury Secretary Jacob J. Lew has said that the accounting moves the U.S. has been using since May to stay below the nation’s $16.7 trillion debt limit will expire on Oct. 17. On that day, the Treasury has $120 billion of bills maturing, followed by $93 billion in more of its shortest maturity debt instruments due on Oct. 24.
A default may not disrupt markets as long as the U.S. alerted traders the night before a payment was due that it was probably going to default, giving the Federal Reserve’s Fedwire, an electronic service that transfers securities and payments, enough time to adjust its programs and allow the defaulted debt to be “transferable,” according to JPMorgan Chase & Co. That would allow them to continue to be used as collateral in repo markets.
“Treasury can, in principle, delay coupon or principal payment dates,” wrote Alex Roever, the head of U.S. interest-rate strategy at JPMorgan Chase & Co. in Chicago. “If Treasury announces its intention to postpone a payment date in advance, the day before the payment is due, the security will remain in Fedwire, and would therefore be transferable.”
The Securities Industry and Financial Markets Association, or Sifma, in a statement this month said if the Treasury were to delay payments on debt it would extend the payment date of the securities one day at a time. The Treasury Market Practice Group, an industry organization sponsored by the Federal Reserve Bank of New York that advises on transactions in U.S. securities, said last month contingency planning developed since the 2011 debt-limit crisis would mitigate yet not eliminate the operational risk posed by government-debt payment delays.
Some clearing firms are preparing for a default, with Citigroup Inc. and State Street Corp. discussing ways to limit the use of short-term Treasury bills as collateral in coming weeks, the Wall Street Journal reported on its website yesterday, citing people familiar with the matter. Citigroup told some clients it would prefer not to take U.S. government debt maturing Oct. 24 or Oct. 31 as security for transactions, the newspaper reported.