Hopes Rise as Deficit Forecasts Fall
Size of Treasury Auctions Is Likely to Shrink as Economy Improves, Keeping Yields in Check
By DEBORAH LYNN BLUMBERG
Several major banks have scaled back their forecasts for this year's U.S. federal budget deficit as the improved economic outlook leads to higher tax receipts, and as many banks and companies that received taxpayer bailouts repay their debts early.
That is good news for the government and the Treasury market, where worries surface regularly that demand for U.S. government debt could flag, which would drive yields higher and raise the cost of borrowing for consumers and companies. The improved fiscal outlook means the Treasury can start scaling back record-size auctions, perhaps as early as May.
The U.S. raised a record $1.6 trillion in debt last year to cover its hefty budget deficit, caused in part by the sharp economic downturn after the housing bubble burst. For this year, the government is forecasting a deficit of close to $1.4 trillion. But some banks now expect a smaller shortfall: Jefferies & Co., for example, expects a $1.2 trillion deficit. Nomura is forecasting a $1.28 trillion shortfall and Deutsche Bank $1.3 trillion.
On Monday, the Treasury will announce how much it plans to raise in debt in the second quarter, and on Wednesday it will provide further details about issuance and the outlook. It has already asked primary dealers—the 18 banks that underwrite Treasury auctions—for suggestions on how it should accomplish a reduction in auction sizes, citing improvements in the fiscal outlook.
The strengthening economy has helped: Tax receipts have been edging up, with April expected to show the biggest inflows because of the April 15 annual tax deadline. Many banks and companies that received taxpayer bailouts repaid their debts early. General Motors, for example, paid $6.7 billion to the Treasury in April to cover a taxpayer loan, five years ahead of schedule.
According to a member survey by the Securities Industry and Financial Markets Association, the Treasury is expected to announce the sale of a net $351 billion in notes, bonds and bills in the second quarter, down from $483 billion in the first quarter.
The Treasury declined to comment ahead of this week's announcements.
The pace of reductions will pick up as the year progresses, many banks forecast: Credit Suisse, for example, expects the Treasury to sell just $900 billion in debt between now and September, when the 2010 fiscal year ends, a sharp slowdown from the $1.4 trillion in October to April. RBC is expecting a bit more, $975 billion.
Auction sizes will be reduced in small steps, according to the banks surveyed by Dow Jones. The late May sale of two-, five- and seven-year Treasury securities is expected to be trimmed by $1 billion to $2 billion each, bringing the total to between $112 billion and $115 billion, compared with last week's sale of $118 billion combined in those maturities.
The two- and five-year auctions could see their sizes cut each month after May, Cantor Fitzgerald said; it also expects a $1 billion reduction of the three-year sale in June.
Even the longer-dated maturities, the 10- and 30-year securities, are expected to be cut back, though that will start later in the year, possibly in August. Most banks expect the Treasury to allude to those reductions in Wednesday's announcement.
BNP Paribas forecast that, in time, the Treasury will reduce the frequency of the three-, five- and seven-year auctions—maturities that are now sold monthly.
Tom Porcelli, vice president and economist at RBC Capital Markets, said, "Ultimately, no issue will be immune to reductions."
But he also warned that the Treasury needs to tread cautiously: The economy is by no means out of the woods, and the Federal Reserve continues to hold rates near zero, meaning a premature reduction in auction sizes could backfire if government revenues were to drop off again later in the year.
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