Few thought that US policy makers would actually come to terms easily. Die-hard Republicans are set on a last ditch effort to overturn president Barack Obama’s marquee health care law, while Obama and the Democrats are unwilling to retreat from what they see as the culmination of Democratic priorities since Harry Truman.
Nevertheless, the markets are starting to get a little bit twitchy. We’ve already pointed out early signs that investors were avoiding owning US Treasury bills that would mature around the time the debt ceiling is reached in late October. Another flashing light on the US debt dashboard is the rising cost of insuring short-term government bonds against default. (You can do that by using financial instruments known as credit default swaps.)
In recent weeks, the cost of insuring US government debt that matures in one-year against default has spiked:
It’s important to note that the market for credit default swaps—which are essentially private insurance contracts brokered by big Wall Street banks—is tiny and illiquid. That means that any one large buyer or seller can move prices around a lot.
Even so, the special position of US government bonds—and the US dollar—is largely based on the elaborate fiction that owning such assets is “risk free.” So, any sign that financial markets are starting to question that premise is damaging to a very valuable asset: the country’s financial reputation.