Yellen to ‘deprive’ local governments of key financing tool, Gold’s legal tender demand could spike

Treasury Secretary Janet Yellen confirmed that the United States could see an unprecedented default as early as June 1, 2023.

In a letter to the US Congress, Yellen urged lawmakers to raise the debt ceiling, and argued,

After reviewing recent federal tax receipts, our best estimate is that we will be unable to continue to satisfy all of the government’s obligations by early June, and potentially as early as June 1…it is imperative that Congress act as soon as possible to increase or suspend the debt limit…

The explosive letter came on the same day that regulators sold the beleaguered First Republic Bank (NYSE: FRC) to JPMorgan (NYSE: JPM) in a bid to reduce the stress on the banking system.

Raghuram Rajan, former governor of the Reserve Bank of India noted,

…while the first phase of the banking problem is probably over, there is a slow-burning distress emerging in the banks as they find they have long-term loans made at low-interest rates and deposits are repricing to much higher interest rates, so their profitability, especially the small and medium sector is getting hurt…

SLGS stopped

In addition, the Treasury has elected to suspend the issuance of State and Local Government Series (SLGS) Treasury securities, which are issued to local bodies to comply with specific tax codes and smoothen public financial management.

The official press release from the United States Treasury is available here and will come into effect from May 2, 2023, at 10 am.

The halting of SLGS issuance is an ‘extraordinary measure’ used to manage the fallout of the debt ceiling and is generally considered for a temporary period.

Yellen notes,

…but it is not without costs, as it will deprive state and local governments of an important tool to manage their finances.

Other than the pain inflicted on state governments and grassroots administrators, uncertainty around the debt ceiling can severely dent business and consumer sentiment.

But she left the most telling comment for last,

… (debt limit uncertainty could) raise short-term borrowing costs for taxpayers, and negatively impact the credit rating of the United States…cause severe hardship to American families, harm our global leadership position, and raise questions about our ability to defend our national security interests.

Following Janet Yellen’s admission, short-dated treasuries were under pressure with the 1-month cash paper rising 0.455% to 4.823%, at the time of writing.

Without a speedy resolution to the debt ceiling crisis, bonds are likely to remain unpredictable, posing severe challenges for money managers and those invested in shorter durations.

Views on the Fed’s upcoming decision

Jim Bianco, President of Bianco Research, does not expect the unfolding crisis in the banking sector and national debt payments to dissuade the Fed from hiking by 25 bps in tomorrow’s meeting.

Primarily, core inflation is yet to come down meaningfully, which remains a major challenge for the 57% (as per a Bankrate survey) of the US population which continues to live pay cheque to pay cheque.

Bianco believes that Powell is prepared to risk some instability in the financial markets, particularly in the case of high-net-worth portfolios to effectively prioritize controlling inflation.

The debt ceiling crisis

Bianco added,

… (the debt ceiling) isn’t going to really matter. Yes, it is a big surprise that it is early June (rather than late July) …this is a hundred per cent political act and it needs to be solved by Congress …this is not the Fed’s issue…not going to let the possibility of default or big deficits change what we think is the right monetary policy.

States’ demand for gold and silver

Last month, I discussed the sharp rise in the number of US states initiating legislative processes to reinstate gold and silver as legal tender.

For interested readers, the piece is available here and provides a deep dive into the arguments for the re-recognition of precious metals in the monetary system as well as the various steps that state lawmakers are taking in this direction.

This process appears to fall largely within the de-dollarization agenda, with state finances already buckling under elevated pension costs and lawmakers fearful of a weakening dollar.

In this piece, readers can learn more about the global movement towards a BRICS currency.

By questioning the sanctity of the US’s global leadership position and credit rating in international markets, Janet Yellen’s letter may further accelerate the constitutional demand for gold and silver among state representatives.

Last month, estimates suggested that the state of Missouri alone would have to purchase $9 million worth of bullion to meet conditions laid out in its bill to accept gold and silver as legal tender.

Given the narrative around the dollar today, it would be interesting to see if state lawmakers try to expedite local legal tender bills in a bid to adjust to Yellen’s letter and the debt ceiling X-date.

It is worth noting that the treasury does not have any statutory obligation to issue SLGS so it can choose to suspend this facility at any time, and has done so 16 times since 1995.