Why the US could face another brush with default

July 30, 2016

By GlobalPost WriterMatt Clinch, CNBC

US President Barack Obama leaves a House Democratic Caucus meeting with (L-R) US Rep. Frederica Wilson (D-Fla.), (L) US Rep. Terri Sewell (D-Ala.), and (2nd L) House Minority Leader Nancy Pelosi (D-Calif.) on March 14, 2013, in Washington, DC. During his third day of meetings with members of Congress, Obama met with Senate Republicans and House Democrats to discuss a number of issues facing the US budget situation.
Chip Somodevilla

With the Dow Jones reaching an all-time high and the S&P 500 not far behind, markets have shrugged off the disappointment of the sequester. But Alastair Newton, senior political analyst at Nomura, says that far bigger hurdles lie ahead that could potentially give the United States another "brush with default".

The $85 billion of automatic spending cuts known as the "sequester" began to take effect in early March politicians failed to reach a later compromise. The cuts also force the country to make $1.2 trillion in budget cuts over the next ten years.

The Dow Jones has since reached an all-time high, and in doing so it logged its first 10-day streak of gains since 1996. The S&P 500 remains within a hair's breadth of its own record.

"Although markets dealt with Washington's failure to avoid the automatic sequestrations at the end of February with equanimity, fiscal issues which lie ahead could yet trigger a negative reaction," Newton said in a research note on Friday.

The next hurdle he foresees is the continuing resolution (CR), a law to allow federal programs to continue to operate at current funding levels at the start of a new fiscal year.

It would need to be passed by both Houses of the United States Congress and signed into law by the president, but Nomura believes that Congress will agree before then to fund government until the end of the fiscal year in September.

"A bigger hurdle will need to be overcome in July/August when the borrowing limit will have to be raised," Newton said.

In January, the Senate approved legislation to permit government to borrow hundreds of billions of dollars more to meet obligations. The House passed the measure by a 285-144 vote, but authorization will end in May with any potential fiscal crisis put off for only four months.

"We see a non-negligible risk of another brush with default," Newton said.

"Despite suggestions recently that scope for a 'grand bargain' remained, we saw little prospect of such in the near term even before the Democrats and Republicans launched widely divergent budget proposals this week."

Meanwhile, President Barack Obama is equally pessimistic as he warned on Wednesday that it may be impossible to reach a deal with congressional Republicans on trimming the budget deficit.

"Ultimately, it may be that the differences are just too wide," Obama said in ABC an interview.

A Democratic-led Senate Budget Committee edged towards a fiscal blueprint designed to trim the deficit on Thursday. Whilst in the House, Budget Committee Republicans approved a 2014 budget plan on Wednesday with an entirely opposite approach. Main differences include the amount of new tax revenues, with Republicans opting for none and Democrats hoping for $1 trillion more.

President Obama spent Thursday on Capitol Hill speaking to Republican senators and then fellow Democrats in the House of Representatives, Reuters news agency reported, attempting to broker a solution that could lead to a bipartisan deal later this year.

But according to Newton, there is one clear goal for politicians that could render any budget deals futile.

"With an eye to the 2014 mid-terms, neither side sees electoral advantage in compromise at this stage, thereby consigning the US to continuing fiscal uncertainty," he said.