The Breakdown - Biden Defaulting on the Debt to Own the Crypto Bros?

Episode Date: May 22, 2023

On today's episode, NLW digs into the acrimonious debt ceiling debates, including the way in which crypto has recently become yet another partisan football.  Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribeto the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Monday, May 22nd. And today we are discussing President Biden defaulting on the U.S. debt to own the crypto bros. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it. Give it a rating, give it a review, or if you want to dive deeper into the conversation, Come join us on the Breakers Discord. You can find a link in the show notes or go to bit.ly slash breakdown pod.

Well, friends, the president has gone and again made the debt ceiling political for the crypto crowd. And so today we are diverting temporarily from our normal Bitcoin and crypto industry coverage to move into the most significant market issue right now, which is the debt ceiling debate. This will serve as a bit of a primer. I will avoid the temptation to get political with it as always. and we'll just try to understand exactly where we are going into this critical week. Right now, the debt ceiling is currently at nearly $31.4 trillion,

with around $24.6 trillion held as bonds by investors, private institutions, and other market actors. The U.S. debt is the largest of any nation state, exceeding the amount currently outstanding for the next four countries combined. In mid-January, the limit of borrowing was reached, leading the U.S. Treasury to begin what's known as extraordinary measures to stretch the remaining cash a little further. These measures trim budget expenditure around the edges by deferring time and sensitive spending, such as making contributions into government worker savings plans and topping up the assets held in the Exchange Stabilization Fund. Earlier this month,

Treasury Secretary Janet Yellen announced that despite these measures, the Treasury looked set to run out of cash by the beginning of next month, leaving officials precious little time to sort out a deal. Now, negotiations have been ongoing for the better part of the last few weeks, although heading into the weekend the tone had soured. Earlier last week, both President Biden and House Republican Speaker Kevin McCarthy, who was heading up negotiations for the GOP, expressed optimism that a deal could be close. And yet, as the weekend rolled around, no deal was there to be had. Now, part of the reason is that the two parties are very far apart in terms of what they want.

The GOP are asking for significant budget cuts. In particular, they're looking for cuts across social spending by ramping up work requirements for government aid, as well as knee-capping flagship Democratic policies like clean energy incentives with the Inflation Reduction Act and additional funding for the IRS. Last month, Republicans passed a House bill which would suspend the debt ceiling until March of next year, but the bill contained such deep spending cuts that it was viewed as a non-starter for Senate Democrats to consider. For their part, the Democrats had come to the table with

a public commitment not to compromise. The White House had planted its flag in the ground early, demanding a, quote, clean debt ceiling bill, insisting that budget negotiations can be defecations can be deferred until after the debt limit is raised. It's unclear whether this position is significantly softened during closed-door negotiations, but it's still very clearly their position when it comes to the battle for public opinion. While the Democrats conceded that some level of budget rectification was necessary, they were focused on balancing the budget on the back of revenue and tax increases rather than resorting to spending cuts. Just as the Ds saw the Republicans cuts as non-starters, the Republicans also appear to view these tax increases as something that

they're not willing to consider. On Friday, McCarthy seemed to indicate that the Democrats had failed to give any ground, saying that he was willing to pause negotiations. He said, we've got to get movement by the White House, and we don't have any movement. So, yeah, we've got to pause. Republican Representative Garrett Graves, who's taking part in the negotiations, said, look, they're just unreasonable. Unless they're willing to have reasonable conversations about how you can actually move forward and do the right thing, we're not going to sit here and talk to ourselves. Meanwhile, President Biden had left the country bound for the G7 summit in Hiroshima. He did not seem hopeful of a resolution telling the press,

I'm hoping that Speaker McCarthy is just waiting to negotiate with me. I don't know if that's true or not. Of course, debt-sealing negotiations blotted out any broader policy questions for the president at the G7, with Biden saying that, quote, now it's time for the other side to move from their extreme positions because much of what they've already proposed is simply, quite frankly, unacceptable. It's time for Republicans to accept that there is no bipartisan deal to be made solely on their partisan terms.

They have to move as well. And of course, this being America, the subject of blame came up. which has been a key negotiation tactic for both sides. Biden said there are some MAGA Republicans in the House who know the damage that it would do to the economy. Because I am presidents and presidents are responsible for everything, Biden would take the blame and that's one way to make sure Biden is not reelected. Both Freedom Caucus Republicans on the one side and progressive Democrats on the other have been pushing for a hardline approach, seeming to believe that their constituents will attach blame for a default on the unreasonableness of extremists from the opposing political

faction. Last week, Representative Alexandria Ocasio-Cortez, AOC, said, quote, Kevin McCarthy has decided to take the entire U.S. economy hostage in exchange for vague and unfocused demands or gestures. It is profoundly irresponsible. It is posing a threat to our economy. It poses a threat to our national security. On Saturday, the White House doubled down on deflecting blame, with spokesperson Corrine Jean-Pierre stating to the press, it is only a Republican leadership behold into its maga-wing, not the president or democratic leadership, who are threatening to put our nation into default for the first time in our history unless extreme partisan demands are met. Now, two notable things here, and this is the extent of the politics of it that I will discuss.

The first is that both sides are definitely making a play for their bases, not the middle. Independence are, of course, watching this with extraordinary discusses as both sides seem immovable, and not only a movable, but like they're cheering on in some ways a default, because they're pretty convinced that they'll come out looking better in the case of a default. If you ever wanted a perfect encapsulation of partisan gridlock, this is it. But let's move on to the market aspect of this, because obviously that's what this show is all about. As the X date for the government to run out of money draws closer, we're beginning to see distortions show up in the markets. The primary concern is that the government would begin

to delay interest payments on its bonds, or even potentially fail to pay out principle in some cases. That risk is concentrated in shorter-term securities, as the thought of a longer-term more prolonged default by the global reserve currency, is still pretty unthinkable. One-month Treasury bills, which could be at most risk in this scenario, are now trading at prices reflective of a 5.4% interest rate, which is significantly above the Fed's benchmark rate of 5.25% and reflects both default risk being priced in, as well as the instrument becoming less suitable for institutions that require guaranteed liquidity at maturity. An example of this risk aversion in action is, of course, Stablecoin issuer Circle.

Last week, Circle put in place a reserve management policy of ditching any government debt that matures beyond the end of this month. Instead, Circle began to stock up on short-term loan agreements with some of the largest banks in the world, satisfied that even if the U.S. government defaults, these large financial institutions will continue to service their obligations. Now, regarding broader markets, over the weekend, the White House said that under a default scenario, it expects a stock market decline of more than 45%. Mike Green wrote, The Let It Burn quote tweets and comments tell you everything you need to know. Everyone is comfortably numb to the consequences.

Former central banker Kathleen Tyson wrote, every crisis starts with a margin call. If U.S. Treasury's market is illiquid and U.S. treasuries cannot be priced because default risks are unknown, then we are about to have the biggest margin call of all time. Watch the clearinghouses for signal. Macro analyst Andy Constance says, lesson for the day. The debt ceiling drama slash resolutions slash tail events are risk management issues, not high risk reward alpha opportunities. Know the difference between risk management and active betting on outcomes. Now, of course, all of this brings up the question, ways around this without a deal. With talks constantly at loggerheads, the calls to just abandon

negotiations and instead opt for some gimmicky workaround have gotten louder. There are three main workarounds being floated. One is the issuance of premium bonds. The second is the use of a constitutional amendment. And the third is the minting of a platinum trillion dollar coin. So-called premium bonds would be issued at a reduced face value with higher interest payments attached, thereby reducing the total debt outstanding by shifting some of those liabilities from principle to interest. This solution has fallen out of favor and doesn't appear to be getting any serious consideration by policymakers. Second, there is a growing call for the president to simply declare the debt ceiling unconstitutional under the 14th Amendment and unilaterally authorized

continued treasury borrowing. The 14th Amendment provides that the public debt, quote, shall not be questioned, and over the weekend, a group of 66 progressive lawmakers wrote to the president asking him to use this method to bring an end to debt ceiling standoffs once and for all. The legal argument appears to have some validity and seems likely to, at the very least, put the Supreme Court in the unenviable position on ruling on the matter. Earlier last week, the White House had rejected this concept, concerned that publicly considering alternatives could scuttle already fragile talks. Last week, when negotiations had looked more promising, one White House advisor told Politico,

quote, they have not ruled it out, but it is not currently part of the plan. Over the weekend, with talks disintegrating, the president appeared to reconsider the issue, stating, I'm looking at the 14th Amendment as to whether or not we have the authority. I think we have the authority. The question is, could it be done and invoked in time that it would not be appealed and, as a consequence, pass the date in question and still default on the debt? That's a question, I think, is still unresolved. Now, the final and most tweeted about solution, at least, is the minting of a trillion-dollar platinum coin. The U.S. Treasury has the authority to, quote, mint an issue platinum bullion coins of any denomination. If this solution were chosen, the Treasury

would mint the coin using a small amount of platinum, place a $1 trillion denomination on the coin, and deposit it with the Federal Reserve. While this workaround might be considered peak fiat and deeply unsurious on its face, it's worth noting that the Republican bill already provided for $1.5 trillion in additional discretionary spending and was forecast to last until early next year. The implication being that even a trillion dollar coin might not be enough to give significant breathing room to the Treasury. Earlier this month, Deputy Treasury Secretary Wally Adiyama rejected the idea, saying that although it is quote, creative and inventive, it lacks the seriousness befitting the world's global reserve currency

issuer. He said, quote, what I can tell you is the only thing that we can do that will maintain our credibility for investors in the United States, our credibility with the people who we've made commitments to, is for Congress to raise the debt limit. Now, as I said right up front, as is becoming all too common, crypto couldn't avoid getting roped into the conversation as part of Democrat talking points. While explaining why he refuses to consider some of the Republican demands over the weekend, President Biden said, quote, I'm not going to agree to a deal that protects wealthy tax cheats and crypto traders while putting food assistance at risk for nearly one million Americans. Trying to understand what he might possibly be discussing, it maybe seems to be a reference to

the proposed tax changes which would prohibit wash trading in crypto and putting a few additional limitations on tax loss harvesting strategies. It's unclear whether Republicans are specifically asking for that tax change to be removed from the agenda during the negotiations, or just that the president is linking a removal of additional funding for IRS agents to the ability to implement this change. Vanek advisor Gabor-Gabr-Ga-Bachs writes, Biden forgot to say that they printed and squandered trillions of dollars and that's why we have problems. If you take all of the billionaires' money, literally 100%, it won't pay for a single year of the federal budget. America doesn't have a revenue problem. America has a spending problem and bad management.

This guy is flying his entire motorcade on a jet around the world, sends hundreds of billions to foreign countries, has a $6 trillion-plus budget, collects trillions in taxes, and he is deflecting to billionaires and crypto traders, banana republic times incoming. Sad to see, but digital assets seem to be a partisan issue. Now, at crypto tax guy had a slightly different take. He writes, Biden embraces crypto's inevitability. This public swipe at crypto traders before the G7 is a veiled reference to the wash sale rules, which deny losses to, quote, stock or securities sold within 30 days of buying substantially identical assets. Three brief observations. A, securities aren't defined in the wash-shell rules. Biden is acknowledging the consensus view among tax practitioners

that crypto isn't a security under the rules, so isn't currently subject to them. B, Biden wants to explicitly apply the rules to crypto. The Build Back Better Act would have done this. His last budget said the change would raise 23.5 billion additional tax revenue over 10 years, and a recent promo said 18 billion. Both estimates seem bonkers, but leave that aside. for now. See, there doesn't seem to be any real opposition to expanding the wash sale rules to crypto, though it's probably fair to say that many Republicans think providing a workable regulatory framework to crypto builders is more important than closing the perceived loophole. TLDR, the Biden and Min may think crypto is poison, but expects it to keep growing enough to play a major role in

reducing the U.S. deficit. You don't get wash sales without reinvestment. That growth projection is now part of his talking points on the global stage. Bullish. Nick Carter of Castle Island Ventures tweeted on Sunday the tweet that became part of this episode's title saying, defaulting on the debt to own the crypto bros. And Punk 6529 wrote, so sweet that we are the all-purpose, all-weather villains for the Democratic Party these days. Now, on Sunday night, it seemed as though cooler heads had prevailed, with both sides willing to go back into negotiations after Biden and McCarthy held a, quote, productive phone call while the president was en route back to Washington. Staff-level talks reportedly continued well into the night on Sunday in preparation for another

round of meetings between the two sides today. Right now, there's around nine days left to reach an agreement before the Treasury runs out of funds, and McCarthy has flagged that he will require three days of notice for his party to consider any debt-sealing bill for a vote. As of recording, there is currently a 5.30 p.m. meeting at the White House scheduled to continue negotiations between the major players. Now, summing this all up, I think pretty much exactly what Pomp thinks when he tweets, here is what I think happens with the debt limit crisis. One, the U.S. does not default. Two, politicians play games until the end. Three, debt ceiling gets raised at the 11th hour. Four, Democrats give in on Republican requests. Five, the media hypes all this up nonstop. Six,

the national debt hits an all-time high by midsummer. Seven, we face another debt limit crisis within 36 months. Eight, more borrowing plus future rate cuts pushes asset prices higher in the coming 12 months. This stuff is complex, and the politicians are doing their best to play campaign games by posturing with each other. But ultimately, hard to see the U.S. defaulting. I'm not changing anything about my investment strategy or portfolio based on any of these thoughts. Stack Hodler put it even more simply and mimally for Bitcoiners saying, no debt ceiling deal? Yield spike. U.S. defaults, investors flee into hard assets, margin calls, systemic risks, Fed forced to buy treasuries. Debt ceiling deal. Yield spike as U.S. government floods a liquid market with treasuries to raise funds, margin calls, systemic risks, fed forced to buy treasuries. Hard money, folks, moisturized, zero counterparties, zero to basement, flourishing. From where I'm sitting, this is all just political gamesmanship. There are, of course, very serious issues underlying this. But you have to think that this would look entirely different if it wasn't coming up on an election year. Still, it's serious enough that real businesses are having to take real actions like circles moving out of short-term treasury.

Those things have consequences. And even assuming the U.S. doesn't default on its debt, you have to think that investors around the world are watching this and getting just a little more weary than they were before. How that all plays out could take months or even years to come to fruition, but it will have a consequence. Anyways, guys, that's the story from here. I appreciate you listening as always. Until tomorrow, be safe and take care of each other. Peace.