US shutdown puts economy on knife edge
Stockmarkets around the world have fallen this week, though the declines were relatively modest in the US, while negotiations in Congress remained stalled.
Asian shares and US currency held steady on Tuesday as Asian markets opened with no government deal in sight.
Many on Wall Street believe the direct hit of a shutdown will be relatively minimal to the factors that drive stocks. An estimated two-thirds of the government - the essential functions - will continue to operate.
But several economists have said the shutdown would most likely have a broader impact on market psychology if it lasted more than a few days, and could drag down an economic recovery that has had trouble gaining traction.
"You have an economy that has already shown some hesitation," said Diane Swonk, the chief economist at Mesirow Financial. "That's the last thing we need right now."
But Wall Street is more worried that the clash on the government shutdown could be a harbinger of fights over the government's borrowing limit.
The US Treasury Department has estimated it will no longer be able to issue new bonds after October 17 without authorisation from Congress.
Several Tea Party Republicans have said they will not agree to lift the debt ceiling without the White House making compromises - something the White House has said it will refuse to do.
If there is no agreement, the government would be forced to immediately operate on a balanced budget and could default on its debt - something that has never happened before.
"Before this week, I would have said to you that the odds of a government shutdown would be pretty small," said Charles Comiskey, the head of Treasury bond trading at the Bank of Nova Scotia in New York.
"What we are learning from this broken Congress we have is that anything is possible."
Large swaths of US business have come together behind the idea that the shutdown is a mistake that could have immediate economic repercussions. More than 250 industry groups signed a letter on Monday calling for a quick resolution to the stalemate, departing from the more mixed prescriptions business groups have given during past budget battles.
"It is not in the best interest of the employers, employees or the American people to risk a government shutdown that will be economically disruptive and create even more uncertainties for the US economy," said the letter, which was put together by the US Chamber of Commerce.
US President Barack Obama is scheduled to meet with members of the Financial Services Forum, which includes the chiefs of banks such as JPMorgan Chase and Goldman Sachs, who are in Washington for an annual meeting. The group is expected to discuss a range of issues, including the debt ceiling.
Investors are keeping a close eye on the market for US Treasury bonds, one of the most heavily traded markets, and a benchmark for the rest of the financial system.
If the government did stop paying interest on its outstanding bonds, they would most likely become less attractive.
But investors responded in unexpected ways the last time the government approached the debt ceiling in 2011, with investors flocking to Treasury bonds as a haven.
This time, the dynamics of the market are even more complicated because bond prices have recently been driven by bets on whether the Federal Reserve will ease off the bond-buying programs it has used to stimulate the economy.
Frequently Asked Questions about this Article…
A government shutdown happens when Congress fails to pass funding and non-essential federal services are paused. The article says markets pulled back cautiously and global stockmarkets fell modestly, with many on Wall Street thinking the direct hit to stock fundamentals would be relatively small because about two‑thirds of government functions continue. However economists warn a shutdown that lasts more than a few days could hurt market psychology and slow an already fragile economic recovery.
According to economists quoted in the article, a short shutdown may have limited direct effects, but a prolonged shutdown could damage business and consumer confidence and drag down a recovery that’s already shown hesitation. Diane Swonk of Mesirow Financial highlighted that added political disruption is the last thing the economy needs.
The debt ceiling is Congress’s authorization for the U.S. Treasury to issue new bonds. The article notes the Treasury warned it could no longer issue new bonds after October 17 without congressional approval. If lawmakers don’t agree to lift the limit, the government could be forced to operate on a balanced budget and potentially default on its debt — an outcome that would create severe market uncertainty.
If the government were to stop paying interest on outstanding bonds, the article says Treasuries would likely become less attractive. That said, investor reactions aren’t always predictable — in 2011, when the U.S. approached the debt ceiling, investors actually flocked to Treasuries as a haven. Current market dynamics are more complex because bond prices are also being driven by bets about Federal Reserve bond‑buying programs.
The article explains that the Treasury bond market is heavily traded and serves as a benchmark for the rest of the financial system. Changes in demand or yields for Treasuries can signal investor fear or confidence, and the market’s behaviour will be closely watched for signs of stress if political fights over funding and the debt limit intensify.
Investors should watch progress in Congress on funding and the debt ceiling, because stalled negotiations increase uncertainty. The article also highlights that more than 250 industry groups, led by the U.S. Chamber of Commerce, urged a quick resolution — and that senior banking executives (from institutions such as JPMorgan Chase and Goldman Sachs, who met with the president) were expected to discuss the debt ceiling — all signs that business leaders are pressing for a fix.
Yes. The article quotes market professionals saying the current clashes in a 'broken Congress' suggest anything is possible and raise concerns that a shutdown fight could presage more serious battles over the borrowing limit. Those political risks feed into market psychology and could amplify volatility.
Based on the article, everyday investors should track congressional negotiations and any deadlines (the Treasury’s October 17 warning is one example), movements in U.S. Treasury bond prices and yields, and comments from the Federal Reserve about its bond‑buying programs. Together those signals will help indicate whether financial markets are pricing in greater economic or political risk.
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