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The ongoing impasse between the two key American political parties over raising the debt ceiling ahead of the deadline on Thursday has heightened worries among investors.
Most market participants still expect the lawmakers to reach a consensus on the matter by the time limit. If they don’t, the US will default for the first time in its history. Analysts said the biggest impact if this happened would be on equities and currencies in emerging markets, including India’s, and on commodities.
“EMs (emerging markets) are likely to re-price substantially on the back of heightened risk-off moves, affecting all asset classes but especially FX (forex) and equities,” said analysts at Goldman Sachs, led by Dominic Wilson, in a client note.
A US debt default is considered likely to push the global economy into a recession ,triggered by a crash in financial markets, similar to that after the collapse of Lehman Brothers in September 2008. Three of the world's most powerful bankers -- Deutsche Bank chief executive Anshu Jain, JPMorgan Chase’s Jamie Dimon and BNP Paribas chairman Baudouin Prot — warned of severe consequences in the event of a US debt default. Jain claimed a default would be “utterly catastrophic”.
Analysts said Indian equities might be among the most vulnerable among EMs because foreign institutional investors (FIIs) own a sizable chunk of stocks here. FIIs have pumped in close to Rs 4.2 lakh crore or $85 billion since January 2009. Their pullout should result in a slide in the markets and also drag down the rupee, which has stabilised after falling to nearly 70 a dollar.
“A US debt default will certainly have an impact on sentiment in the short term,” said U R Bhat, managing director, Dalton Capital India. “But the event might not be as serious as it is being made out to be because it is on account of dysfunctional politics, rather than the country’s inability to repay its debt.”
Commodities might also plunge if the US defaults on its debt, as base metal prices have a well-established inverse relationship with the dollar. “The repercussions on financial markets around the world, including the base metals, would in theory be catastrophic, probably mirroring the financial crisis of 2008,” said Raju Daswani, managing director of the London-based Metal Bulletin. However, he also sees a default as most unlikely.
“If the US defaults, the danger is that it has severe knock-on effects across a wide range of financial markets. This could be similar to events after the Lehman collapse, when US politicians allowed it to happen (after) believing it wouldn’t be a major problem,” said Nic Brown, Natixis’ head of commodities research.
In the event of a US default, oil prices would fall, while gold and silver prices would benefit significantly, as both metals are considered to be shelters in the event of a weakening dollar.
The increase in the debt cap requires the approval of both chmabers of the legislature.
