Applause for Debt-Ceiling Courage

Applause for Debt-Ceiling Courage
David R. Kotok
February 18, 2014

Two good things happened in Washington, DC. One received mass media fanfare, while the other escaped the radar. They are linked.

Twenty-eight Republican members of the House of Representatives, including Speaker John Boehner, voted for a clean debt-ceiling increase. Those 28 Republicans were joined by 193 Democrats. Those Republicans and Democrats should be applauded for doing the right thing for the US. Their motivations may be partisan politics; but, that said, the outcome puts the good of the country ahead of political party.

A clean debt-ceiling bill postpones debt-limit political squabbles until early 2015. It relieves a huge uncertainty that impacted the markets and economy. By using the debt limit as a political tool in the fight over spending initiatives, the Tea Party-esque conservative Republican wing introduced additional risks and costs to every business, investor, foundation, charitable institution, and other financial organization in the US. The debt limit squabble is a political contrivance. It represents a fiction. Everyone knows it.

No one in the world expects the US to default on its debt. It has no reason to do so. US debt is a preeminent high-quality promise to pay in a timely way. It is an obligation with the capacity of the world’s largest economy behind it. It is also denominated in the US dollar, which is the world’s reserve currency and which dominates transactions globally. The Tea Party Republicans and the couple of Democrats who joined them in an attempt to use the debt limit as a blunt tool to hack at budget priorities performed a horrible disservice to the US and all of the constituencies within it.

Please understand that we have no issue with a fight over spending priorities and taxation policy. Grappling with such issues is what our political system does, and that is why we elect a Congress. The fault we find is that members of Congress used the debt limit as the vehicle for the fight.

We applaud the 28 Republicans who, along with the Democrats, courageously cast votes to get a clean debt-limit bill passed. They face political attacks within their own party, launched by Tea Party primary entrants who will urge voters to show them the door come Election Day. That is all the more reason to support those Republicans who put their country and conscience ahead of their party.

The resolution of the debt-ceiling debate is good medicine for the recovering US economy, and its beneficial effect is already visible in the short-term interest rate sector of the financial markets. These markets are now clearing in the short end of the yield curve. And that is the important news that did not make the headlines.

The combination of the Treasury’s new floating-rate notes along with the use of repo and reverse repo and the forthcoming issuance of large amounts of Treasury bills has impacted the markets in only a minimal way. Think about the fact that billions in short-term paper is now rolling in the Treasury market with no apparent volatility or dislocation. The US Treasury will be able to send tax refunds out on time. The Treasury will be able to easily issue up to $100 billion tranches in Cash Management Bills without any difficulty. One can quickly see the huge benefit that was obtained by all involved in short-term funding because those 28 Republicans had the courage, political will, and foresight to avoid another costly debt-limit fight.

In other words, the whole process is going to work; and because it will work smoothly, it will not get any attention. No headline in the media will say, “Money markets functioning well.” No one will take the stage on Bloomberg Television, Reuters, Fox Business, Yahoo Finance, Al Jazeera or CNBC and pronounce how easily and smoothly the clearing mechanism of payments is functioning. The dividends paid by political courage will not make any news.

That is a shame. It is very big news when the system is working. But as jaded American observers, we tend to pay attention only when there’s a crisis. When the system is working, we take its functioning for granted and move on to other matters.

This writer watched interviews with the detractors who promoted Tea Party disruption. However earnest their intentions, to accomplish their ends they would restrain the functionality of our financial markets and impose risk premia and additional costs on each and every one of us. Some of them are politicians who cannot see the workings of the world except through the myopic lens of their own rigid ideologies. Others are commentators who join them to fan the flames of Tea Party sentiment. All of them promote injury to the US even as they try to advance fiscal spending restraint. We support restraint; we condemn raising risk premia needlessly.

Of course this is a personal view, written by one individual who follows financial markets closely. Like so many others, we are quick to criticize when we do not like political actions. But the economist in us seeks symmetry. Therefore, we must also be quick to praise when praise is justified. Supporters of the clean debt limit helped all of us.

By shrinking risk premia in globally correlated markets, all of us benefitted.  Thus, praise is warranted, especially for the 28 Republicans who voted “aye.”
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David R. Kotok, Chairman and Chief Investment Officer