Last year's agreement to suspend the U.S. debt ceiling is resulting in some unintended consequences in the market for borrowing and lending Treasuries, as the deal soon expires.
The rate for overnight loans backed by Treasuries in the repurchase-agreement (repo) market plunged Monday to 0.059 percent, the lowest since September 30, as the government issues fewer bills to bring down its cash balance. As part of the agreement, the Treasury needs to bring the balance down to levels that held when the pact was reached in February 2014 to prevent the stockpiling of cash.
'The Treasury needs to get its cash balance down by the mid-March setting of the new debt limit,'' said Michael Cloherty, head of U.S. rates strategy in New York at Royal Bank of Canada's RBC Capital Markets unit. "Given that, they have kept bill supply fairly flat, unlike the typical seasonal rise that occurs in the first quarter. That has contributed to an abrupt slide in overnight repo rates."
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While Republicans in Congress have clashed with the Obama administration several times over raising the limit, which is suspended until March 15, few are expecting a repeat of the political standoffs that occurred over the borrowing measure in 2011 and 2013. Senate Majority Leader Mitch McConnell, a Kentucky Republican, has stated repeatedly the government won't default on its obligations and won't shut down.
The Treasury can also take measures that probably will allow the U.S. to stay under the ceiling until September or October, the Congressional Budget Office estimated last month. The CBO estimates that the federal debt subject to the limit will reach US$18 trillion this year.
The Treasury is expected to cut its cash balance to about $30 billion as part of the debt ceiling's reinstatement. The governments cash coffers stood at $200 billion at the beginning of January.
"There won't likely be any histrionics associated with mid-March, as the Treasury has extraordinary measures it will use," said Ward McCarthy, chief financial economist at Jefferies LLC in New York. "The Treasury has a lot of room to play with. I suspect Congress will work out a deal by July, as they tend to get pretty productive before they go on break."
The average rate for borrowing and lending Treasuries for one day through repo was 0.063 percent the past two days, according to the Depository Trust & Clearing Corp.'s GCF repo index. The GC repo rate closed Thursday at 0.10 percent, according to ICAP Plc, the world's largest inter-dealer broker.
Less Repo
The amount of securities financed through one part of the market known as tri-party repo fell to an average $1.58 trillion as of Jan. 12, from $1.96 trillion in December 2012, according to data compiled by the Federal Reserve from its 22 primary dealers.
A shortage of securities available in the repo market historically drives rates down as people are willing to take in reduced interest on cash loans to obtain desired debt. Securities dealers use repos to finance holdings and increase leverage. A repo agreement is a collateralized loan in which one party offers a security as collateral for a cash loan.
The Treasury's borrowing advisory committee recommended earlier this month that the government absorb excess cash through reduced bill issuance. In January and February, the Treasury's net new issuance of bills has been $5 billion. That compares with a rise of $43 billion in 2014, $113 billion in 2013, and a $110 rise in 2012, according to Jefferies.
The U.S. auctioned $64 billion in notes and bonds in its quarterly refunding this month, which was completed on Feb. 12. That was $2 billion less than a quarter ago and the lowest since 2008, as a stronger economy helps narrow the nation's budget deficit, the Treasury Department said. The sales resulted in a debt paydown of $16.6 billion.
–With assistance from Jeanna Smialek in Washington.
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