Goldman Sachs Q&A: Fiscal Policy & Odds Of Government Shutdown
Below is a good update from Goldman on current state of the fiscal debate in Washington. And on a related note, a WSJ piece Wednesday had the quote of the week regarding the current dynamic between fiscal and monetary policy:
– Peter Fisher, a former top Fed and U.S. Treasury staffer
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Goldman Sachs— Q&A on Recent Developments in the US Fiscal Debate (Phillips)
The Senate is likely to pass its version of the continuing resolution on Friday, September 27, and the House looks likely to pass a modified version of it by Sunday, September 29. The House looks likely to amend the resolution, which would require additional time in the Senate, possibly longer than the amount of time remaining before funding expires at the end of September 30. The odds of a shutdown have risen, but we still view it as less likely than a last-minute compromise or short-term extension.
The Treasury has announced that it expects to exhaust its borrowing capacity by October 17, though it may still have cash on hand to last through nearly the end of October. The House had tentative plans to take up debt limit legislation on Friday, September 27, but that has been postponed.
We see a low probability that the Treasury will be unable to make its scheduled payments on time due to the debt limit. The risk to Treasury securities is even lower, in our view. However, we are somewhat concerned that some lawmakers do not view the Treasury’s October 17 deadline as a hard deadline, since the cash balance the Treasury expects to have at that point is large enough to last another week, possibly more.
Q: Where does the continuing resolution stand?
A: The House passed a continuing resolution (CR) on September 20, which funds the government at the current level through December and blocks implementation of the Affordable Care Act (ACA, sometimes also referred to as “Obamacare”). The bill cleared the first procedural hurdle in the Senate on September 25. The final votes are expected the afternoon of Friday, September 27: first, the bill will need to overcome an additional procedural hurdle requiring 60 votes. Next, the Senate will vote on an amendment that would, among other things, remove the language in the House bill that blocks implementation of Obamacare. The amendment would also shorten the extension from December 15 to November 15. The Senate will then vote on final passage of the bill, sending it back to the House. The first of these votes requires a 60-vote supermajority while the others require only a simple majority; affirmative votes look likely in all cases.
If all goes according plan– these days in Congress, plans change frequently–the bill would go back to the House later on Friday. The House has already indicated it will remain in session over the weekend to deal with the continuing resolution. House leaders must choose whether to pass the Senate bill with no changes and send it to the President, or to amend the Senate bill with something new and send it back to the Senate. House passage of the Senate bill without changes would get the bill to the President’s desk long before funding expires at the end of the day on Monday, September 30. By contrast, sending the bill back to the Senate would raise the odds of at least a brief shutdown, because the Senate typically takes several days to act due to its procedures. At this point, the House looks likely to amend the bill and send it back to the Senate.
Q: How likely is a shutdown at this point?
A: The likelihood of a shutdown has clearly risen compared with a few days ago, but we still think there is a higher probability that it is avoided. There is a possibility that the House will send the Senate a short-term extension of spending authority–one week, for example–in the next few days, in addition to sending the longer-lasting CR. The idea here would be to continue pressing for a change to the ACA in the longer-term CR, but since it will take the Senate a few days to consider the latest version of the longer-lasting CR, a one-week extension would be passed to avoid a shutdown. A second possibility is that the Senate might be able to waive some of its usual procedures and pass whatever the House sends it fairly quickly. However, waiving the Senate’s usual procedural timeline would require unanimous consent, and it is clearly possible a few senators might object. It would also require that the Senate actually accept whatever the House adds to the bill over the weekend. Some of the options the House is considering might be accepted by the Senate: for example, a proposal to change the way members of Congress and staff are treated under the ACA has major political significance but very little practical effect outside of the Capitol, and is more likely to be accepted by Senate Democrats than most other changes to the ACA.
Q: What would a shutdown imply for the upcoming debt limit increase?
A: It would be a mistake to interpret a shutdown as implying a greater risk of a debt limit crisis, in our view. It would not be surprising to see a more negative market reaction to a shutdown than would be warranted by the modest macroeconomic effect it would have. We suspect that many market participants would interpret a shutdown as implying a greater risk of problems in raising the debt limit. This is not unreasonable, but we would see it differently. If a shutdown is avoided, it is likely to be because congressional Republicans have opted to wait and push for policy concessions on the debt limit instead. By contrast, if a shutdown occurs, we would be surprised if congressional Republicans would want to risk another difficult situation only a couple of weeks later. The upshot is that while a shutdown would be unnecessarily disruptive, it might actually ease passage of a debt limit increase.
Q: When does the debt limit become binding?
A: Treasury will no longer be able to issue debt from October 17, and it will deplete its cash by the end of October if not before. Over the last few days, the debt limit deadline has gotten more confusing. This is partly because much of the commentary on the debt limit has conflated two different deadlines. The first deadline is when the Treasury will exhaust its borrowing authority. The Treasury announced earlier this week that it expects this to occur on October 17, in line with the projection the Treasury released a month ago. Since this projection is determined mainly by Treasury issuance expectations, only the Treasury can project this with accuracy, and as far as we know only the Treasury makes such a projection.
By contrast, the Treasury does not project when it will deplete its cash balance, though many external organizations do. Since the Treasury aims to run a cash balance large enough to cover unexpected payment needs or a revenue shortfall, the Treasury expects to have $30bn on hand the day it exhausts it borrowing capacity. Most external projections of the debt limit deadline focus on when this cash is depleted. Our own estimate implies that the Treasury could conceivably continue to make its scheduled payments through the end of October. A number of large payments are due November 1, and it appears very unlikely that the Treasury would be able to make all of the payments scheduled that day, absent an increase in the debt limit.
Q: What is the plan to address the debt limit?
A: There does not appear to be a plan at this point. The House had appeared likely to vote as soon as September 27 on a proposal to extend the debt limit through December 2014. That bill would have also included a variety of other policy changes, such as a one-year delay of “Obamacare,” a fast-track process for consideration of tax reform, and approval of the Keystone XL pipeline, among many other provisions. However, consideration of the debt limit package now looks like it will be delayed until the continuing resolution has been enacted and the shutdown risk has receded.
What makes the current debt limit discussion different from the 2011 debt limit increase is the focus on issues with political appeal but in many cases limited or no fiscal effect. Some might see this as making a deal easier, since winning a few incremental changes to the ACA is probably easier than agreeing on a multi-trillion dollar “grand bargain” on deficit reduction. On the other hand, it also makes the debate somewhat more confusing because it is harder to see where the middle ground is on such issues.
In the end, we assume that the debt limit increase will follow the same general path as most other recent fiscal battles: the House passes legislation that appeals to House Republicans, then the Senate passes legislation that is the product of some negotiation, which the House eventually accepts, perhaps with some additional modifications.
Q: What is the risk that the Treasury becomes unable to make scheduled payments?
A: We think the probability of missing a scheduled payment is low, and the probability of missing a scheduled interest payment is even lower. Despite the uptick in worrisome headlines, we do not view the debt limit to be a major risk. First, we believe most lawmakers are concerned enough about the possibility of a default that they will do what is necessary to avoid it. Second, there are potentially steps the Treasury could take to avoid missing payments if Congress did not manage to increase the debt limit; for example, the Treasury might be able to use some additional “extraordinary measures” similar to those it has used since May to create headroom under the limit. Third, if Congress did fail to raise the debt limit on time, it seems likely that the first payments that would be missed would be something other than Treasury interest payments. If scheduled payments began to go unpaid, we would expect pressure to increase substantially on lawmakers to enact an increase.
That said, the situation is not entirely risk-free. One concern we have is that unlike other recent debt limit debates, this time around there appears to be much more attention paid to the projected size of the Treasury’s cash balance. The result is that there appears to be less urgency regarding the October 17 deadline, raising the possibility that the debate carries into the following week. This would increase the risk of a debt-ceiling mishap, since Treasury cash flows can fluctuate from expectations on a daily basis by several billion dollars. Still, on net we see this as a fairly low probability, for the reasons noted earlier.