May 20, 2023 - Economy

When cash is safer than risk-free

Illustration of a one hundred dollar bill sealed inside a bubble wrap envelope

Illustration: Annelise Capossela/Axios

Is my money safe? That question — and the search for places where the answer is "yes" — undergirds the entire global financial system. Right now, we're in an extremely unusual situation, one where some assets are even safer than U.S. Treasury securities.

Why it matters: Money, as we use and store it today, is almost always some kind of debt — and "safe" money is anything backed by the U.S. government.

  • Instruments backed by the government, however, aren't direct government debt — and therefore can remain safe and cash-like, at least in the short term, even in the event of a U.S. bond default.

The big picture: In theory, if U.S. government bonds aren't safe, then nothing is safe. Treasuries are what people buy when they want zero risk.

  • However, assets do exist that can be considered safer than Treasury bonds, at least in the short term.

A prime example is the money you have on deposit in your checking account.

  • Technically speaking, that's a liability of your bank, and your bank is not more creditworthy than the government. Indeed, U.S. government deposit insurance is the key reason why banks can be trusted with our money.
  • A government default, however, wouldn't immediately drain all liquidity from the banking system. Payments, cash withdrawals and other transactions could continue uninterrupted.
  • As a result, money owed by a risky bank can in some situations be safer than money owed by the government.

Where it stands: One of the most risk-averse funds in the world is the BlackRock USDXX fund, which holds the dollars backing Circle's USDC stablecoin.

  • "USDXX does not hold T-bills that are set to mature after 5/31/23, with assets rotating into cash or government repo transactions instead," Circle said in a statement this week.
  • A close look at those cash holdings might uncover some quantum of credit risk — but the cash, unlike the T-bills, carries no immediate risk of default.

Be smart: While individuals keep their cash on deposit at banks, banks keep their cash on deposit at the Federal Reserve. That money, just like T-bills, is a liability of the government. But it's not subject to the debt ceiling, which makes it especially safe and liquid.

Between the lines: T-bills are extraordinarily safe, even now. In the extreme event that the government fails to redeem them in full at maturity, they would still trade at par on the secondary market, so anybody holding such an instrument would be able to convert it to cash immediately.

  • A brief default on Treasury securities, however, would cause chaos in money markets that depend on predictable cashflows for sophisticated liquidity-management operations.

The bottom line: The fast-approaching x-date at which the government might be forced to default has exaggerated the differences between different flavors of risk-free cash-like instruments.

  • A lot of very smart financiers are currently spending a lot of time thinking hard about those distinctions. All that effort could and should have been put to much more productive use in the real economy.
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