Investors will still flock to US Treasurys in a default - but the crisis would make these alternatives more attractive down the line

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• Atlantic Council senior director Josh Lipsky said investors would still turn to US Treasurys immediately after a default. 
• But long term, a default hurts the credibility of the US, and investors would seek other assets, he told Insider.
• "More and more countries will look for alternatives, and eventually they will find them."

If Washington fails to resolve the debt-ceiling standoff, investors still won't have a viable alternative to the US Treasury market, but it's likely to rattle long-term confidence in American assets, according to Atlantic Council senior director Josh Lipsky.

As reports emerge that the White House and Republican lawmakers are close to a deal, markets are breathing a sigh of relief. But with key conservatives still not onboard and the deadline just days away, there is little margin for error. Also, the potential agreement would extend the borrowing limit for another two years, meaning the problem will almost certainly arise again.

In a default scenario, the government could prioritize making coupon payments to bond holders while postponing other obligations, which would stabilize the largest debt market in the world.

The fallout would resemble those of past crises when stocks tumbled, unemployment climbed, and a recession hit — and that means the US Treasury market would offer the best near-term option if the so-called X-date arrives without a debt ceiling deal, Lipsky told Insider.

To be sure, the credibility of the US-led financial system will suffer over the long term, he added. In the short term, however, "investors want Treasurys, a safe asset. They have no alternative."

For now, there are no other assets that offer both the safety and reasonable returns of Treasurys, which have always provided a safe haven in tumultuous times. Meanwhile, other bond markets don't come close to the size, liquidity, or transparency that the US offers. 

"But in the long term, it's just one more piece of the puzzle where investors around the world say this is not a reliable leader of the international finance system," Lipsky said. "More and more countries will look for alternatives, and eventually they will find them."

Non-dollar currencies like the euro and yuan could emerge as investment options, creating a multipolar system with the dollar losing some of its dominance, he said.

And while the market for AAA-rated German bonds is only a tenth the size of the US market and could only handle a limited amount of extra inflows, a euro-wide market could provide competition albeit far in the future, Lipsky predicted.

Leading up to the X-date, the think tank expert pointed out that investors have already been rotating out of short-term Treasurys and into long-term bonds, which has manifested in shifting yields. 

Gold offers the most obvious hedge to a default, as it's a classic safe-haven investment during times of turmoil. Other precious metals and property could emerge as hedges too, Lipsky said.

"Gold's more likely than bitcoin," he maintained. "I wouldn't be surprised to see a general hedging across all sorts of different assets. But I don't think that's where the bulk of the money is going."

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