The Impact of a US Technical Default on Long-term Treasuries

By Walter Kurtz, Sober Look

We know how the short end of the US treasury curve is expected to react to a US technical default (see post). But what about the long end of the curve? A survey from JPMorgan suggests that investors are divided.

10y yield under US technical default


This of course would be an unprecedented event and nobody really knows how fixed income markets will react.

Those who argue that longer term rates will fall believe that the economy and the equity markets (as well as other risk assets) will take such a hit, a severe deflation will ensue. Under such a scenario treasuries will become similar to JGBs, with nominal yields collapsing even as real yields stay positive.

The other group however believes that such an event will shake investor confidence in treasuries so much – by delaying payments indefinitely – that investors, particularly foreigners, will dump the paper in unprecedented amounts. The dollar will take a tremendous hit and longer term rates would spike.

Neither scenario is particularly appealing.  Politicians who think this will help balance the budget will soon realize that the collapse of tax revenue from either of these outcomes will far outweigh any supposed improvements in fiscal discipline. Sadly, by the time the realization sinks in however, it will be too late.


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Sober Look

Sober Look

Sober Look was founded by Walter Kurtz, a New York based hedge fund manager and credit markets specialist.

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  • Hubert K.

    sorry, wrong thread,

    Martin Armstrong writes:

    There is no single relationship that withstands the test of time and circumstance. There are always two dimensions to every fundamental. Yes the government can keep rates artificially low. However, pension funds become insolvent forcing them to invest more into the private sector, the elderly lose their retirement no longer able to live off of their savings, and the spread between bid and ask in interest rates for the real world widen (0.5% for 3 year CDs while secured 3 year car loans are at 4%). There is a huge difference in the spread that emerges and tears the fabric of society apart.

    The real rates will rise when capital shifts from banks into stocks and real estate because the banks cannot be trusted, This is caused by the requirement to earn more to meet obligations by pension funds and the elderly. As that capital shifts, the availability of cash to play with in banks will decline and that will force them to bid higher for deposits that the central banks cannot prevent. Everything is connected within the global economy. This is why artificial manipulations can never be maintained indefinitely. Hence the answer is the opposite. Not whether I can prove markets are “unfixable”, but can anyone please show me even one precedent where they have ever been fixed successfully that extended indefinitely? Sorry, but no government has met that criteria to date.

    What are your thoughts on this?

  • Andrew P

    If foreigners dump Treasuries the Fed will buy them, so no net effect. They probably nixed their “taper” just so they could continue to sop up Treasuries being sold by foreigners.

  • Bob

    The US government brings in over 200 billion per month. The interest on the debt is about 20 billion. So any and all talk of defaulting is simple absurd and/or headline grabbing fear mongering.