© AFP/File Shawn Thew

AFP

WASHINGTON (AFP) – The debt-laden US government’s credit card will hit its limit Monday, creating a cash crunch that puts the country’s credit standing at risk as politicians battle over its long-term deficit.

Reaching the $14.29 trillion ceiling set by Congress will not have an immediate impact on government finances, because the Treasury has found about ten weeks of wiggle-room in short-term adjustments and an unexpected April jump in tax revenues.

But with Republicans refusing to increase the ceiling without massive future spending cuts, the longer the fight over bridging the country’s deficit goes on, the higher the stakes will get.

If nothing is done by about August 2, there is a chance the United States, which has always merited a top-grade credit rating, could do the unthinkable — default on its debt payments.

Few think it will get that far, as the White House leads behind-the-scenes talks on a grand strategy on the deficit — with Republicans insisting on spending cuts and Democrats demanding tax increases as well.

Still, some liken the fight to a game of chicken being played with the country’s credit standing at stake.

“Using the debt limit as a bargaining chip is quite risky,” Ben Bernanke, the chairman of the US Federal Reserve, warned politicians on Thursday.

“At minimum the cost will be an increase in interest rates that will actually worsen our deficit,” he said.

“The worst outcome would be one in which the financial system was again destabilized… which of course would have extremely dire consequences for the US economy.”

Bond analysts — who are closest to those who fund the debt — called a default unthinkable.

“The severity of the outcome is why people are not believing that it will happen,” said Aaron Kohli, a US Treasuries specialist at Nomura Securities.

“It’s the financial equivalent of a nuke going off.”

“As far as (US bond) yields are concerned, they are much lower than they were a month ago. So, the market is acting as if there’s no problem,” said Scott Atkinson of Briefing.com.

Even so, the numbers are worrying. As of Thursday, the government had another $38 billion to borrow before striking the ceiling, and the settlement of bonds auctioned during the week would take it there on Monday.

Meanwhile, the government has to bridge a monthly funding deficit of $120 billion.

Short-term spending cuts and higher-than-expected revenues will permit the government to operate just under the ceiling through August 2, when higher borrowing becomes unavoidable.

The ceiling has been raised or lowered 74 times in the last 50 years, usually without political acrimony. But Republicans have drawn a line in the sand over the issue this time.

“Without significant spending cuts and reforms to reduce our debt, there will be no debt limit increase,” the powerful Republican leader of the House of Representatives, John Boehner, said on May 6.

“We’re not just talking about billions here. We should be talking about trillions,” said Boehner, while ruling out tax hikes as a part of the mix.

Pressure on the deficit has mounted from others as well.

On April 18 Standard & Poor’s cut the outlook on US sovereign debt to “negative,” the first time the ratings agency has ever placed such a warning on the US’s gold-standard AAA rating.

S&P said it did not see Washington agreeing on a plan for its debt before the November 2012 presidential election.

The International Monetary Fund has urged the country to “urgently” address its problems, casting doubt on its resolve.

But bond markets — usually the first sign of concern over a country’s financial health — have actually moved in the other direction, with yields on US debt falling last week, mainly as money moved out of falling commodities and stocks.

“I don’t think much will happen. They can continue to operate through August” while talks continue, said S&P’s chief economist, David Wyss.

“There’s obviously no danger of debt default” before then, and after August 2, the government would prefer to cut spending rather than default.

“They will prioritize debt service payments,” he said.

Kohli said the market might react if there is no deal by the end of July.

“As we near the do-or-die date … then you could have pretty severe consequences” on US debt sales.

“The debt ceiling is really window dressing — spending is what the fight is really over. From that aspect, this discussion is a good thing,” said Briefing.com’s Atkinson.

A “technical default” in August could spark a sell-off as some investors panic, he said.

“We believe any sell-off would be greeted opportunistically by buyers. The odds of the US eventually not paying its debt is about zero.”

© AFP — Published at Activist Post with license