FT: A U.S. default could threaten world’s ‘plumbing system’

Finally we have a news story from the mainstream business press that explains the potential dangers of a U.S. default.

Congratulations to the Financial Times for its consistent, clear reporting on the repurchase market and for not being afraid to use the r-word (repo).

In their July 17 story, reporters Michael Mackenzie and Dan McCrum tell how a default in Treasuries could impact the repurchase market and ripple out through the financial markets, and they suggest signs their readers can watch to assess the situation as we near the August 2 deadline set by Treasury Secretary Timothy Geithner for raising the debt ceiling.

From the story:

But any failure to raise the debt ceiling that ultimately results in a Treasury default could spark severe consequences in the crucial plumbing system that underpins global finance, given the central role played by US government bonds.

“As practically all parts of the global financial system from governments and central banks to companies and investors hold Treasuries for reserves or for security, the system would be at risk of collapsing,” said Carl Astorri, global head of economics and asset strategy at Coutts.

Treasuries are widely used as collateral for cash loans in the repurchase, or repo, market. On Friday, the Securities Industry and Financial Markets Association held a meeting with staff from the big banks to discuss operational issues that could arise in the event of a default.

Analysts at Bank of America Merrill Lynch estimate 74 per cent of primary dealer repo financing, about $2,100bn, involves Treasury collateral. Money market funds also place significant amounts of cash in the repo market, and a default scenario would create strains for this sector if investors start to pull out their cash.

There’s more. Read the whole thing.

Related story: U.S. debt default could freeze repo market


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