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US debt ceiling deal sets stage for modest relief rally

President Joe Biden and Republican House Speaker Kevin McCarthy have reached an agreement in principle to avert a US debt default that could have devastated the global economy and financial system. 

Several major media organizations have reported the tentative deal will suspend the debt ceiling for two years, with domestic spending frozen near current levels even as outlays on defence and veteran affairs are increased. Firm details are not yet available, but informed opinions suggest work requirements under family assistance and food stamp programmes will be tightened, energy sector approval processes will be streamlined, and some newly-approved Internal Revenue Service funding will be clawed back.

The deal must now gain approval in the House and Senate before it can be sent to the president for his signature. Convincing members of the far-right Freedom Caucus to lend their support could prove difficult for Speaker McCarthy, but it is believed that a number of Democratic representatives are willing to form a coalition with more moderate Republicans to pass the bill. According to new estimates published by the Treasury Department yesterday, this process must be completed by June 5 to avoid a default. 

We expect currency markets will rally reflexively at the open tomorrow afternoon, with the greenback retreating as the need for dollar-denominated liquidity fades. Central bank expectations in countries closely tied to the United States – like Canada – could shift slightly higher as the odds on a global credit crunch begin to fall. Front-end Treasury yields should revert back toward normal levels, and commodity prices could gain some lift, but equities – and other asset classes that have remained relatively stable throughout the drama – are less likely to react in any significant way. 

If initial reports are correct, overall spending levels won’t shift enough to materially impact the near-term US growth outlook, but also won’t come down enough to deliver any meaningful improvement in the country’s fiscal trajectory. Accordingly, we look forward to keeping you updated on the process again in two years, when US politicians gear up to play another performative game of Russian Roulette with the global economy.

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