US debt ceiling brinkmanship stops (just) short of the brink

Apparently, the term “brinkmanship” came widely into use during the Cold War, when both sides sought to push their opponent to the brink of outright war in order to convince them to back down. Nowadays, it seems like the term is most often used in a political context, especially when the US approaches its debt ceiling, as it is once again.

While few informed traders actually believe that the US will outright default on its debt, lingering concerns about the Treasury running out of money after November 3rd have made market participants queasy. Americans caught a break last month when the Speaker of the US House of Representatives, John Boehner, announced that he would be resigning at the end of October, making him a “lame duck” politician who was more likely to compromise on a deal. In typical 11th hour fashion, that hoped-for political compromise appears to be coming together.

Last night, President Obama and Republican congressional leaders apparently reached a tentative deal on the budget and debt ceiling. The deal, which still must be approved by both the House and Senate, raises domestic and defense spending by $80B (a little 1% of the total government budget), makes small cuts to the Social Security disability program and Medicare, and most importantly, extend lift the national borrowing limit through March 2017.

Predictably, hard-line, Tea Party Republicans are dissatisfied with the deal, but as of writing, it looks like it will have enough support from Democrats and more moderate Republicans to pass both houses as soon as Wednesday. Assuming there are no last-second stumbling blocks, the new budget deal would ease the transition of leadership to the presumptive next House Speaker, Paul Ryan.

Market Reaction

Markets are taking the budget “breakthrough” in stride, as many traders assumed such a deal was in the offing, especially after Speaker Boehner announced his resignation. US equity futures are pointing to an essentially flat open, while yields on the 2-year and 10-year government bond are falling. The US dollar is actually edging lower on the news, especially against the Japanese yen. Finally, gold is ticking up to test the top of its bullish flag pattern near 1165, while oil is testing a 2-month low near 43.30.

As long as the new debt ceiling deal is approved, traders will be free to turn their attention toward some of this week’s other top-tier data, including tomorrow’s FOMC monetary policy decision, Thursday’s US GDP reading, and the BOJ meeting on Friday.