Tuesday, May 24, 2011

Specter of U.S. Sovereign Debt Default

Carlyle Group co-founder David Rubenstein moderated OMB Chief Jacob Lew's talk to the Economic Club of Washington (source:  Bloomberg). Should Congress not pass a bill increasing the debt limit,U.S. debt could enter default.  Lew, like Treasury Chief Tim Geithner, believes a settlement will be reached, avoiding default.

While Rep. Paul Ryan can't envision a down side to default, consider the impact of Lehman Brothers' bankruptcy in September 2008.  Credit default swaps soared to unimaginable levels.

U.S. debt is nowhere near those astronomical levels, but CDS coverage is increasing:  CME Group reported:

US Treasuries aren't without some cracks.  Credit default swaps are showing rising rates again as the trade has apparently started to show some reaction to the lack of progress on the US deficit front.

Reuters ran:
In the sovereign credit default market, which is lightly traded, the five-year cost to protect a U.S. Treasury default was last quoted at 51.167 basis points, up from 48.401 basis points on Thursday, according to Markit.

Lehman owed $370 billion when it imploded.  The U.S. government owes over $14 trillion.  I expect elected leaders who went ghost faced in September 2008 to not invoke a "nuclear explosion in the financial markets," as cited by NakedCapitalism over two years ago. Lehman's fallout continues, complete with high dollar bottom feeders.

It seems like yesterday Rubenstein queried ex-OMB Chief Peter Orszag about health reform, with its "political economy of delayed implementation" and "throwing stuff against the wall to see what sticks."  Lew and Orszag kow towed to the moderator, a politically-connected private equity underwriter (PEU).

Nobody mentioned Carlyle's two failures in 2008, BlueWave Partners (hedge fund) or Carlyle Capital Corporation (a highly-leveraged Guernsey based, publicly traded MBS fund).  Carlyle doubled down since, buying billions in structured credit and a new hedge fund (fund of funds)   How bold can politicians and PEU's be?  It remains to be seen.

Update 5-24-11:  FT did a piece on rising credit default swaps prices for federal debt.  It states prices almost tripled in six days, yet it provided no data on pricing.