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The battle over the debt ceiling is nightmare fuel for Treasury markets. It’s also a headache for state and local governments that rely on the municipal bond market to finance everything from roads and public transportation to schools.

“It puts me a bit on edge,” Howard Cure, a partner at Evercore who leads the investment bank’s muni bond research team, told MM.

House GOP budget hawks haven’t identified what cuts they’d like to make in exchange for a vote on the debt limit. And Biden administration officials are adamant that they won’t abide Speaker Kevin McCarthy’s attempt to link Treasury’s ability to make bond payments — a cornerstone of the global financial system — to spending cutbacks.

But the tenor of those negotiations is already being felt in bond markets. And even in the likely event the U.S. avoids a default, a contraction in federal funding for state and local programs – coupled with a possible recession and higher interest rates — would pose real challenges to governments whose pandemic-era budgets were bolstered by booming tax revenue and federal aid, Cure said.

“The rhetoric now about cutting certain discretionary programs is my reason for monitoring this more and more,” Cure said.

Tighter budgets and a tougher financing environment could leave governments exposed to credit downgrades that would drive up the cost of issuing new municipal bonds. That reduces how much money is available for state and local agencies to provide basic services.

“There's credit vulnerabilities,” he said. “I’m not sure if it's so extreme that it could lead to default [for municipal bond issuers], but it just makes all these entities more financially vulnerable.”

It’ll be some time before there’s a resolution. Treasury expects remaining cash, along with some fancy accounting maneuvers, to allow the U.S. to continue paying its bills through mid-June — though that’s “subject to considerable uncertainty.” White House officials aren’t exactly freaking out over the House GOP’s saber rattling, as our Ben White reported last week, and many on Wall Street are taking solace in arcanemaneuvers that would keep the U.S. from default.

Even so, the next few months could be painful.

President Joe Biden extended an offer to McCarthy to discuss next steps, but he’ll have to navigate the standoff as his new chief of staff, expected to be Jeff Zients, takes the reins from longtime consigliere Ron Klain.

Meanwhile, rumors are swirling that key members of Biden’s economic team are headed for the exits. And McCarthy’s tenuous hold over a fractured Republican caucus will pose challenges to both White House officials and top lawmakers.

“We are increasingly concerned that both Washington and Wall Street are too sanguine regarding the political and procedural headwinds,” Isaac Boltansky, director of policy research at the global financial services firm BTIG, wrote in a note. While the debt ceiling is still probably going to be addressed, “there is likely a considerable amount of political posturing, finger pointing, and crisis choreography between here and any final deal.”

IT’S MONDAY — And Sam successfully avoided getting concussed on the slopes in Park City. Reward him with tips at [email protected] and Zach Warmbrodt at [email protected].

Monday … Leading economic indicators will be released at 10 a.m. … CFTC Chair Rostin Behnam will speak at the Commodity Markets Council conference in Ft. Lauderdale at 12:15 p.m. … CFTC Commissioners Caroline Pham and Summer Mersinger will hold a fireside chat at the same conference at 3 p.m. … Tuesday … Pham will give a speech on non-bank intermediaries at the Law and Finance Conference on the Future of the Financial Sectors 8 a.m. ... The Hudson Institute is hosting an event on non-compete clauses at 10 a.m. … Wednesday … World Economic Forum President Børge Brende will discuss globalization at a Peterson Institute for International Economics event at 9 a.m. … The SEC will consider new rules for conflicts of interest at 10 a.m. … Thursday …The initial GDP estimate for Q4 will be released at 8:30 a.m. … New home sales will be released at 10 a.m. … FRIDAY … The PCE price index for December will be released at 8:30 a.m. … University of Michigan consumer sentiment and inflation expectation surveys will be released at 10 a.m.

MORE ON ZIENTS — Our Eugene Daniels, Adam Cancryn and Eli Stokols: “Zients has maintained close ties to departing chief of staff Ron Klain and other senior Biden aides dating back to the Obama administration, when he did stints atop the National Economic Council and Office of Management and Budget. In recent months, Klain had tasked Zients with overseeing a project to prepare for the expected staff transition that typically occurs following the midterms. The move underscored Zients’ status as an administration insider and broadened his familiarity with the staff he’ll soon lead. The president, a person familiar with the decision said, views Zients as a ‘master implementer.’”

McHENRY CATCHES CONSERVATIVE FLAK FOR ‘WOKE ESG AGENDA’ — From Zach: House Financial Services Chair Patrick McHenry is facing complaints from the left and the right for how he plans to handle diversity and inclusion issues at the committee.

The North Carolina Republican frustrated Democrats by scrapping the panel's dedicated D&I subcommittee set up by previous Chair Maxine Waters. He instead opted to make diversity an agenda item at every other Financial Services subcommittee. (More on that from our McHenry interview here.)

The move on Friday triggered a rebuke from the conservative FreedomWorks, which blasted the decision as "advancing the left's woke ESG agenda." The criticism was notable as McHenry and other senior Republicans on the committee plan to push back on the ESG agendas at the regulators and big Wall Street firms. FreedomWorks executive Vice President Noah Wall said the group will hold accountable "any such member who advances ESG priorities."

The bigger picture: This isn't the only rift between McHenry and the right. As MM scooped last year, he has also spoken out against holding the debt ceiling hostage in exchange for spending cuts.

NEW BANK-FINTECH GROUP RECRUITS KEY PPP OFFICIAL AS CEO — First in MM, also from Zach: The Banking as a Service Association — a group representing banks that partner with fintech firms — has hired former SBA senior official Bill Briggs to be its first CEO.

Briggs oversaw all aspects of the Paycheck Protection Program during the depths of the Covid-19 pandemic, serving as a key official responsible for ensuring that hundreds of billions of dollars in aid flowed to employers via traditional lenders and fintechs.

The Austin, Texas-based Banking as a Service Association formed last year and largely represents small banks plus their fintech partners. Briggs will be based in Washington. The group's mission is notable because other bank trade associations have taken an increasingly antagonistic tone toward fintech competitors in recent years.

"The great thing about [banking as a service] is it doesn't limit a community bank to their geographic charter," Briggs told MM. "They can now have further reach outside of where they normally do business."

SLOW DOWN — WSJ’s Nick Timiraos: “Federal Reserve officials are preparing to slow interest-rate increases for the second straight meeting and debate how much higher to raise them after gaining more confidence inflation will ease further this year.”

A COMPLICATING FACTOR — WSJ’s Stella Yifan Xie: “Just when signs point to easing inflation worldwide, China’s economic reopening after years of strict pandemic controls is raising questions about whether it could spur costs higher again.”

GENESIS — From Sam: “Troubled crypto brokerage Genesis Global filed for bankruptcy late Thursday night after more than two months of failed attempts to repair its multibillion-dollar lending business.”

While other major crypto bankruptcies sparked a sharp decline in digital asset prices, the collapse of Genesis — which was sued by the Securities and Exchange Commission earlier this month for allegedly offering unregistered securities — markets met Friday’s news with a shrug. “This has been in the offing for a long time and I think in a lot of ways, this is already priced into the market,” said Charley Cooper, a former CFTC official now with the software and blockchain technology firm R3, told MM.

Bitcoin and Ether prices have climbed by more than 25 percent over the last month. Kaiko, a blockchain analytics firm, said that much of the recent activity in crypto markets has been driven by large investors. “While market depth temporarily increased in December, liquidity started deteriorating again at the start of the year,” the research firm wrote in a series of Twitter Posts.

WATCH THIS SPACE — Bloomberg’s David Pan: “Binance, the world’s largest cryptocurrency exchange, said Signature Bank will only handle user transactions of more than $100,000 as the bank decreases its exposure to digital-asset markets … ‘As a result, some individual users may not be able to use SWIFT bank transfers to buy or sell crypto with/for USD for amounts less than 100,000 USD,’ Binance said in a statement sent to Bloomberg News on Saturday.”

HOT SEAT— WSJ’s AnnaMaria Andriotis and David Benoit: “The Federal Reserve is investigating Goldman Sachs Group Inc.’s consumer business to determine whether the bank had appropriate safeguards in place as it ramped up lending, according to people familiar with the matter.”

NEW SUIT — Our Declan Harty: “A group advocating for broad reforms to the so-called administrative state is targeting the top U.S. audit watchdog's enforcement powers in a lawsuit, calling its private proceedings unconstitutional. The New Civil Liberties Alliance — a nonprofit that has sought to rein in federal agencies including the SEC through litigation in recent years —sued the Public Company Accounting Oversight Board late Thursday in the Northern District of Texas.”

SAY WHEN — Bloomberg’s Jess Menton: “The pause in the stock market’s strong start to 2023 underscores the main question vexing much of Wall Street: When will it be safe to start buying again?”

Germany and Francewarned that European businesses will need to unleash investments on a nearly unparalleled scale to keep from falling behind US and Chinese firms as countries revamp their economies to make them more climate friendly. — Bloomberg’s Ania Nussbaum, Samy Adghirni and Michael Nienaber

Argentina and Brazil are in the preliminary stages of renewing discussions on forming a common currency, reviving an often-discussed plan that would face numerous political and economic hurdles. — Bloomberg’s Daniel Carvalho and Maya Averbuch