Before financial markets have another tantrum over the Federal Reserve tapering its bond purchases, as they did in 2013, they might want to look up at the debt ceiling.
While financial markets have been fretting over the possibility that the Fed will start to pull back on its easy money policies before year-end, investors might want to start paying attention to the possibility that a politically intractable debate over the debt ceiling is coming and it could derail any plans that Jay Powell might have to slow asset purchases and raise interest rates.
As the effects of the coronavirus pandemic lessen and the economy grapples with rising inflation (transitory or not), more and more voices on the Fed have made it clear they want to start the taper in 2021.
In remarks on Friday, Fed chairman Powell himself said that “At the FOMC’s recent July meeting, I was of the view, as were most participants, that if the economy evolved broadly as anticipated, it could be appropriate to start reducing the pace of asset purchases this year.”
See: Fed chair Powell says he supports starting to taper bond purchases this year
But while Powell reiterated that he is in no rush to raise interest rates, he also went on to caution that “The intervening month has brought more progress in the form of a strong employment report for July, but also the further spread of the delta variant.”
The spread of the coronavirus delta variant mostly through unvaccinated communities is beyond the control of monetary policy experts, but some economists are cautioning that Powell might want to expand his scope to see what else is outside his power.
“If delta derails employment growth, taper is obviously delayed – and do not underestimate the potential for market disruption tied to the debt ceiling to also delay (but not deny) the start of taper,” Steve Blitz, chief economist at TS Lombard wrote in a note on Friday.
In early August, U.S. Treasury Secretary Janet Yellen, who preceded Powell at the Fed, began conducting emergency cash-conservation steps in order to keep the government within its borrowing limit. The move came one week after the two-year suspension of the debt ceiling expired on July 31, during which the national debt ballooned from $22 trillion to $28.5 trillion, as the federal government spent more on relief programs to combat the impact of the pandemic and the Federal Reserve helped to finance the debt.
Yellen’s so-called “extraordinary measures” are only projected to last for three months at the longest, meaning Congress will have to vote to raise or suspend the debt ceiling in October or early November, or the government will have to begin to shut down, but that is the same window of time that the Fed is considering for beginning to wind down its bond purchases.
Republicans have already made it clear that…
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