“Debt Deal: Markets at Risk of Collapse & Obstacles to Passing the Agreement”

Investing.com – Legislation brokered by President Joe Biden and House Speaker Kevin McCarthy to raise the US debt ceiling of $31.4 trillion cleared a significant hurdle late Tuesday, as it was passed by the Rules Committee and sent to the full House for consideration and a vote expected on Wednesday.

The markets witnessed a state of optimism during the past few hours, in preparation for the vote on the agreement by the US House of Representatives, today, Wednesday, but the optimism may be short-lived, given the repercussions of raising the debt ceiling on liquidity in the markets.

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Liquidity crisis in the markets

Experts predict that with an agreement reached, the US Treasury may quickly replenish its empty coffers by issuing bonds and treasury bills, drawing cash from the markets.

According to Bloomberg, the US cash stock currently stands at $39 billion, its lowest level since 2017.

JPMorgan (NYSE:) said the ceiling hike is expected to be followed by the issuance of more than $1.1 trillion in Treasury bills, or T bills, over the next 7 months.

This issuance of bonds with the current high interest rate may drain the reserves of banks, as private companies and investors will withdraw their deposits in banks to buy the most profitable and safe government debt instruments.

Experts at BNP estimated that more than $750 billion to $800 billion in liquidity tools such as bank deposits and overnight trades with the Fed could be diverted to buy short-term Treasury bills by the end of September.

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Earlier, economists at Goldman Sachs (NYSE:) estimated that the Treasury Department would issue $600-700 billion in treasury bills, or T-bills, after raising the debt ceiling, which would drain liquidity from the financial markets.

Analysts at “Bank of America”: “This will have the same effect as a rate hike of 25 basis points on the economy.”

Alex Lennard, chief investment officer at Ruffer Asset Management, said: “We worry that if liquidity gets out of the system, for whatever reason, it will make the markets more vulnerable to collapse.”

In a less pessimistic note, Mike Wilson, an equity strategist at Morgan Stanley, said: “The issuance of new Treasury bonds may act as a catalyst for the correction we were expecting.”

Bankers and experts say that the risks related to draining liquidity from bank reserves will remain until the agreement is completed in Congress and the steps that the Treasury will follow to refill its cash stocks, in addition to waiting for the Fed’s moves at its next meeting in July.

Obstacles to passing the deal

McCarthy will appear to face some challenges in passing the agreement, which was criticized by Republicans in the House and Senate, as Rep. Chip Roy, a prominent member of the House’s Hard Freedom Caucus, said he would try to prevent the approval of this agreement in the House.

Republican Representative Nancy Mays announced her rejection of the recent debt ceiling agreement between US President Joe Biden and House Speaker Kevin McCarthy over the weekend.

These votes indicate that there is a tendency in the US Congress to oppose the agreement and thus the settlement of the deal that has been concluded may fail.

Legislation brokered by President Joe Biden and House Speaker Kevin McCarthy to raise the US debt ceiling of $31.4 trillion passed a significant hurdle late Tuesday, as it was passed by the Rules Committee and sent to the full House for consideration and a vote expected on Wednesday.

The committee voted 7-6 in favor of legislation suspending the debt ceiling until January 1, 2025, allowing Biden and lawmakers to delay the politically risky issue until after the November 2024 presidential election.

It also caps some government spending over the next two years, speeds up the approval process for some energy projects, and returns unused COVID-19 money.

And if the Republican-controlled House of Representatives passes the bill, it will refer it to the Senate for discussion and a vote as well.

Both houses of Congress must pass this legislation before June 5, when the Treasury Department will run out of money and will be unable to pay its debts for the first time in US history.

And if the Treasury can’t pay, it could wreak economic havoc on the US and global economies.