Tuesday, October 8, 2013

The Markets Are Going to Throw Their Toys Out of The Playpen

The Markets Are Going to Throw Their Toys Out of The Playpen

We are getting closer to the financial edge as the government shutdown merges with the debt ceiling deadline.  It is not at all surprising that the Senate and House aren’t negotiating.  If you look at the two positions, there’s really nothing to talk about.  The Republican House is offering a continuing resolution that funds the government at a rate of $1.8 trillion until December 15, 2013 in exchange for repeal, delay, or modification of the Affordable Care Act.  The Senate is offering the same funding rate until November 15, 2013 without other provisions.  Both funding plans are $300 billion under the President’s budget.
 
Ignored Report (2010)
If the Republicans were proposing a long-term budget deal, there might be a lot to negotiate over because proper funding of all sorts of government agencies and programs might be worth trading for some modification of the ACA.  However, the gutting or postponement of the ACA only buys a short-term budget deal.  What do you think would happen on November 15 or December 15?  The House Republicans, having won some concessions on the ACA, would demand more changes in the Act or repeal of some other existing law that they don’t like.  It’s hard to see how you can get a serious negotiation going when any budget deal is a short-term fix in exchange for long-term damage to President Obama’s signature achievement.  Moreover, if the House achieved its objective on the continuing resolution, one can only imagine the terms that would be attached to a debt ceiling bill. 

I certainly do not know how all this posturing and dawdling will play out in the next few days.  However, I have a good of idea about how Congress is going to get its wake up call.  So far, the stocks and bond markets haven’t reacted very much.  While stocks have sold off a bit, bond prices continue to trade as if Congress will reach a deal on the debt ceiling.  There are plenty of financial stories about the relative calm on Wall Street thus far.[1]

However, if nothing happens on the legislative front in the coming days, Wall Street will have one of its patented temper tantrums.  One or two banks will begin to rearrange their trading book to reduce risk and eliminate exposure to treasury bills coming due in the next few weeks.  Other bank and hedge funds will catch wind of the tactic and attempt to adjust their books, and the rout will be underway.   

When the House failed to support the initial bank bailout package (TARP) in October 2008, the DJIA proceeded to drop by 740 points in a single day after remaining relatively stable in the belief that the House would pass the bill.    The market plunge sent an unmistakable message to Congress.  Several days later, they passed the legislation. 

While each side may be listening to its particular constituents in the budget and debt battle, it’s my experience that all sides listen to the stock market and the folks on Wall Street.  After all, it’s Wall Street money that funds both political parties in this country.  So far, Wall Street’s voice has been muted, but I’m betting that they’ll be sending a message in the coming days.

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