The Looming Debt Ceiling Vote

Taper this, taper that… Traders have been so obsessed with the possibility of the Federal Reserve reducing its asset purchases that they are overlooking a bigger problem on the horizon.

What the heck am I talking about? The fiscal fight, of course!

Earlier this year, Congress agreed to bump up the U.S. debt ceiling in order to reach a deal regarding the country’s budget. Sadly, this issue has lost the market’s attention over the past few months, as the spot light has shifted to the Fed’s monetary policy plans.

However, it seems as though the time has come for the U.S. to tackle this problem again.

According to Treasury Secretary Jacob Lew, the country is in danger of hitting its credit limit by mid-October. This means that Congress will once again have to vote on increasing the Federal debt ceiling just to raise enough funds to pay for the country’s heavy bills.

Surprised to hear that? You aren’t alone! Most market watchers initially thought that the current debt ceiling would hold until mid-November.

Since May, the U.S. treasury department has been using unconventional (but still legal) accounting methods to prevent the government from hitting its debt limit. But as I mentioned above, these tools will most likely run out by around October 15.

Lew said that if the government is stripped of its borrowing powers, it would be left with only $50 billion in its coffers. It might seem like a big amount, but it is not enough to cover the government’s expenditures for long. It is estimated that around $80 million in payments are made by the U.S. government per month.

This new development puts heavy pressure on lawmakers to act quickly and find a way to increase the debt ceiling. In fact, Lew warned that not fixing the issue quickly could do “irreparable harm” to the U.S. economy.

For now, it seems that raising the debt ceiling is the only option. Unfortunately, this is easier said than done. On one hand, the Congressional Republicans have demanded spending cuts or reforms in exchange for their votes for an increase in the debt ceiling. On the other hand, Obama’s camp is pushing for an increase in the limit with absolutely no conditions attached.

U.S. Dollar Index Daily Chart

If the debate on raising the debt limit goes on for too long, it could have detrimental effects on market demand for the dollar. It could eventually lead the U.S. dollar index to a break of the 81.00 recent low, which was last touched in June. Should that level give way, the index could end up sliding back down to this year’s low around 79.50.