US shutdown Economic threat or business as usual
Article 5 minute read

US shutdown Economic threat or business as usual

03 October 2013

The US has begun a partial government shutdown after President Barack Obama and congressional leaders failed to break a budget deadlock. The first event of its kind in 17 years, the closure of non-essential government services resulted from disagreement over how the US should proceed with its funding and the healthcare bill.

While many believe it's nothing to worry about - after all, it has happened before - the shutdown could shave as much as 0.9% off US GDP in the third quarter. What's more, the deadline for raising the debt ceiling is looming and the continued impasse between Obama and Congress is causing panic.

"Debt ceiling breakdowns are unprecedented and are far riskier for the economy and markets," Russ Koesterich, chief investment strategist for BlackRock, noted. "A failure to raise the debt ceiling before the October 17th deadline could put the US in technical default, an event which would be massively disruptive to the economy and the global financial system."

In itself it seems that the shutdown doesn't pose a real threat and isn't a reflection of the economy. "They're going to eventually get to a compromise and then we'll move on," trader Kenny Polcari told The BBC. But a lack of government data is making it hard to get a real gauge of the country's economic position, meaning that as the fourth day of the shutdown comes to a close, organisations across the globe are understandably asking if there is a real economic threat or if it should be business as usual for the US.

A test of wills

The shutdown has become a test of who will blink first and all sides are claiming the opposition won't negotiate.

Speaking  yesterday (October 3rd) Obama stressed he would not be held to ransom. "If the Speaker of the House John Boehner simply let the bill get on the floor... the shutdown would end today," he said. "The only thing that is keeping the government shutdown, the only thing preventing people from going back to work, and basic research from starting back up... is that Speaker John Boehner won't even let the bill get a yes-or-no vote because he doesn't want to anger the extremists in his party."

This impasse is problematic as the longer the shutdown lasts, the greater the economic impact. Over the short-term, the effects are marginal. Koesterich explained that there will be a slight fall in GDP and consumer confidence if the issue is resolved promptly. However, if neither side compromises, the US will have a problem on its hands.

"A longer shutdown would (a) create more of a drag on the economy and (b) call into question Washington's ability to reach a debt ceiling agreement," Koesterich said.

Yet the looming debt ceiling deadline could actually help to force a decision. Koesterich noted that because the effect of not raising the $16.7trn debt ceiling would be so damaging, it is believed Congress will act prior to the deadline.

Stocks take the hit

Despite assertions that the effects of the shutdown will be minimal, stocks are taking a notable hit. The greenback weakened against the yen for a fourth straight-day today (October 4th), while it remains near eight-month lows against both the euro and the pound.

The crisis has also led to speculation that the Fed will shy away from tapering, giving emerging market currencies the edge. Since the shutdown, the rupee's exchange rate with the dollar soared by over one per cent, as did that of the Malaysian ringgit.

"Asian currencies are riding on the tailcoats of a weaker dollar," Vishnu Varathan, an economist at Mizuho Bank, told Bloomberg.

What does this mean for businesses?

On a large scale, economic uncertainty means investors are likely to be wary of the US. Share prices are already showing signs of this and the lack of capital means companies could find themselves in a more than unfavourable position.

Similarly, trade may drop off slightly as a response to perceived volatility and a lack of new data coming from the government. With the recession still firmly in the mind of the international business community, caution is the name of the game. Already the effects have been seen in the domestic pig market, with the disappearance of official prices. This means farmers are without a reference point for negotiation with meatpackers, The Financial Times reported.

Just one day after the shutdown officially began, the volume in lean hogs fell 47 per cent as traders stepped back. Neil Dierks, chief executive of the National Pork Producers Council, told the newspaper: "With each progressing day, it’s becoming foggier and foggier what is happening in the market. There’s a void."

Will there be a quick resolution?

Unfortunately, with the shutdown coinciding with the debt deadline, it is unlikely there will be a quick resolution to current uncertainty - even if the government reaches an agreement over the budget.

Koesterich stated that while reaching a speedy solution would be positive for the economy, it "represents less of a risk than the possibility of a debt ceiling breach".

"Even if a Continuing Resolution (CR) is passed, investor attention is likely to quickly turn to the debt ceiling," he said. "While we believe the debt ceiling will ultimately be raised and that the U.S. will avoid a default, history suggests that a compromise will prove elusive until the last minute. As a result, volatility is likely to remain elevated, even if a government shutdown is quickly reversed."


Insights and updates delivered to your inbox.

Sign up now