Under the current circumstances in the US the capital markets understand that the immediate issues are generated by differing political agendas between Democrats and Republicans, and not reflective of perceived financial distress in the US.
There are three possible outcomes: 1) A deal is reached before the August 2 deadline, 2) A short-term deal (estimated 6-months) is reached by August 2nd, allowing further debate and a more general agreement within Q1 of 2012, or 3) No deal is reached.
There is essentially no chance that a deal will not be reached. Both the Democrats and the Republicans are not debating whether or not to increase the debt ceiling, rather they are arguing over if/how taxes will be raised and the composition and quantity of budget cuts.
The primary question is whether a deal will be struck by the August 2nd deadline. Even if the August 2 deadline passes, it will be a temporary technical default, and political and economic pressure will force a solution and approval of a debt level increase.
We’ve seen this pattern many, many times in the past – the most recent of which was the debate over the bailout in response to the financial crisis. Obama was presented a plan that the capital markets wanted to be approved, but he vetoed it. Within two weeks a slightly amended plan was approved.
There is essentially no chance the US will truly default on their obligations. Worst case, the deadline slips but a solution is found shortly thereafter. The capital markets will react accordingly – understanding that the problem is only temporary and reflective of politics. As such, the impact on Ukraine will be nominal.
If August 2 passes without agreement, the US Dollar will devalue slightly, though much of this uncertainty would have already been priced into US currency exchange rates by that time. This is already being seen. US Dollar exchange rates have weakened recently primarily reflecting the debt-ceiling debate.
Similarly, the US equity markets (stock exchanges) would fall, but most of that downward pressure will have similarly been priced in prior to the event of technical default. Under those circumstances, the Ukrainian Hryvnia would strengthen against the US Dollar as would other world currencies. This would be a reflection of US Dollar weakening rather than Ukrainian Hyvnia strengthening.
Also, interest rates on US Dollar denominated debt instruments would rise, and thus the value of US debt instruments held by investors would decrease. To the extent that Ukraine holds US Dollars reserves and US denominated debt as assets, the values of these assets would decrease commensurately.
The same would apply to any Ukrainian bank, corporation or individual that has US Dollar based assets.
If in fact the US were to truly default – meaning that all US debt would need to be restructured – that would be perhaps the most devastating single blow to global financial system that could occur. Of course, there is no expectation whatsoever that this will occur.
Marc Lewis is a partner at Deloitte, one of the world’s Big Four accounting and auditing firms.
