Crypto watchers maintain risk of bias as US debt ceiling nears

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Last week, US Treasury Secretary Janet Yellen warned that the government would hit its statutory debt ceiling of $31.4 trillion on January 19.

Naturally, this is scary and could force crypto investors to reconsider the sustainability of Bitcoin’s (BTC) recent rally. After all, we are talking about the government of the largest economy in the world with the deepest financial markets and controlling the supply of the world’s reserve currency, the greenback, reaching the limit of how much it can borrow to finance its operations.

Still, now is not the time to panic, as the shutdown will not happen immediately. Yellen vowed to put in place ‘extraordinary measures’ to help the government meet its obligations for at least five months, buying a few months from Congress to break the deadlock and raise the so-called debt ceiling to avoid a shutdown.

And these moves could bode well for risky assets, including cryptocurrencies, analysts say.

Debt ceiling and crypto

“Treasury Secretary Janet Yellen said her institution would implement “extraordinary measures” to extend the time available to reach an agreement before a shutdown is necessary. This will obviously include a limit on new debt that can be issued, which will reduce the supply of U.S. Treasuries and all other things being equal, drive prices up and lower yields Lower yields imply an easier monetary environment, which is good for risky assets,” Noelle Acheson, author of the popular “Crypto Is Macro Now” newsletter, told Coin Desk.

Bond yields represent borrowing costs in the economy, and investors’ risk appetite is closely tied to the availability of cheap credit. The lower the yields, the greater the appetite for risk and vice versa.

Since the start of 2020, stocks, cryptocurrencies and other risky assets have largely moved in the opposite direction of US Treasuries (government bonds) yields. Bitcoin, the leading cryptocurrency by market value, fell more than 60% last year as rapid Federal Reserve (Fed) rate hikes lifted the 10-year Treasury yield by 153 basis points at 3.88%.

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Phillip Gillespie, former CEO of crypto liquidity provider B2C2 and partner of AWR, a London-based multi-asset HFT, said: “The Treasury General Account (TGA) still has $400 billion, so the Treasury could use this money to compensate for the impasse in the debt ceiling.Some see it as a backlash to the Fed’s efforts to tighten financial conditions.

A cash outflow from the TGA is likely to counter the Fed’s pursuit. quantitative tightening. (Refinitiv/ING)

The Treasury General Account (TGA) is the government’s operating account maintained at the Fed to collect tax revenue, customs duties, proceeds from the sale of securities, government debt receipts, and to meet payments of the government.

The TGA is a liability on the Fed’s balance sheet and must be offset by assets. When the Treasury makes payments, the money is withdrawn from the TGA and sent to the bank accounts of individuals and businesses. This, in turn, increases the reserves available at commercial banks, potentially stimulating lending and leading to monetary easing in the wider markets/economy.

“We live in a two-tier monetary system where entities (mainly commercial banks) that have accounts at the Fed pay each other special currency called central bank reserves, and everyone transacts in bank deposits. When the TGA declines, these reserves go into the commercial banking system and increase the banking system’s reserve assets and bank deposit liabilities,” Fed watcher Joseph Wang said in an explainer.

Assuming the Treasury lowers the TGA as expected, this could inject liquidity into the system and offset, at least to some extent, the Fed’s ongoing quantitative tightening (QT), a process of balance sheet normalization and a way to suck liquidity from the system, which has been shaking up risky assets since June 2022.

“The resulting injection of liquidity into the system, all things being equal, could help mitigate the impact of quantitative easing on liquidity,” ING analysts said in a report dated 11 January. “This, in turn, would be another favorable development for Treasuries [and suppress yields].”

Contentious negotiations

The issue of the US debt ceiling is not new. According to the US Treasury, “since 1960, Congress has acted 78 times to permanently increase, temporarily extend, or revise the definition of the debt limit 49 times under Republican presidents and 29 times under Democratic presidents.”

This time, however, the consensus is that the looming debt battle could be the most intense since 2011, spooking investors and prompting Standard and Poor’s to downgrade the US sovereign rating from AAA (outstanding) to AA+ ( excellent).

“The debt ceiling was never a problem and was always raised without much of a fight. But then in 2011 it became a huge problem and the economy took a hit that lasted a few months, and the federal credit rating was downgraded.While most politicians should remember this time, or at least understand their recent history, this time could also be different as this group of House Republicans is clearly looking to shake things up. things,” Wes Hansen, director of commerce and operations at crypto fund Arca, said in an email.

According to CNN, House Speaker McCarthy recently told President Joe Biden that Republicans want to impose a spending cap in exchange for a temporary increase in the debt ceiling. Biden, however, ruled out negotiations, saying, “It’s not and shouldn’t be political football. It’s not a political game.”

There are signs of stress among some coroners with less follow-up from traditional markets. “The price of US 5-year credit default swaps, currently at their highest monthly average since the end of the 2011 debt limit crisis that led to a US downgrade by S&P”, Acheson said. “Markets are more nervous this time than in previous stalemates.”

The jitters could spread to other corners of the market if the stalemate persists for long, leading to cryptocurrency outflows.

“If we get to the point where the US could default, or if the world thinks there’s a chance we’ll default, that’s bad. Traditional markets will crash at some point in the two next few weeks if a deal is not reached. If risky assets really sell off, it will definitely affect digital assets,” Hansen said.

Richard Rosenblum, co-founder of crypto trading firm and liquidity provider GSR, expressed a similar view, adding that “the likelihood that sanity will not ultimately prevail and that US defaults are still close to zero.”

Risk aversion could therefore be short-lived. Additionally, market instability could push forward the Fed’s long-awaited easing, as Bank of America’s rates research team said in a Jan. 13 note to clients.

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