FYI | Oct 01 2013
By Kathleen Brooks, Research Director UK EMEA, FOREX.com
Congress never found middle ground after all, the US government has shut down and hundreds of thousands of public sector workers won’t be going to work today as non-essential public services will be suspended. If only the US government was a computer – you could press the re-start button, but instead it is a bunch of head strong politicians who make Europe’s lawmakers look like responsible human beings.
The markets expect the inevitable
As we said in our note here, a government shut-down is not nearly as scary for the markets as the debt ceiling, which will be hit on October 17t;, hence the fairly muted reaction in the markets so far in the European session. Stocks in Europe are mostly higher so far, from a currency perspective, although the USD is lower, there have not been any major moves, although USDCHF has come under pressure and is testing the base of its long-term range at 0.9000. Treasury yields are fairly stable around 2.65%, and the Vix index, considered Wall Street’s fear gauge, has been moving higher, but it is still below levels last reached in early September.
The real impact of the government shutdown
Right now we lie in wait to see how long it takes for the Democrats and Republicans to go to the negotiating table, something they should have done months’ ago. It could take some time. So far, the Republicans in the House don’t want to pass a short 1-2 week bill to fund government and buy some more negotiating time. The Senate will re-convene at 0930 ET/ 1430 BST on Tuesday when it looks like it will be back to square one. The impact of this shut-down will depend on how long it lasts for. Anything over 5-days is likely to have a material impact on Q4 growth. The key impact of a shutdown that lasts 5 days or more could be:
1, It could increase the US government budget deficit as it is costly to shut down and re-start government programmes.
2, It could also hurt revenues, as hundreds of thousands of government workers, government suppliers etc. don’t pay taxes as they don’t earn during a government shut-down.
3, The key source of uncertainty is the impact on business and consumer confidence – the more drawn out this is the worse the impact is likely to be.
Government shut-down = more QE= good news for risk?
It appears that the US sees economists as a non-essential government service, economic data releases by the Commerce department will be delayed. Although initial jobless claims are expected to be released this week, there is a big question mark over whether payrolls will be released on Friday. ADP and ISM surveys are compiled by private companies so they should be released as normal. Perhaps most importantly for financial markets, the Fed’s asset purchases will not be impacted by the government shut down, so QE can blunt the force of US government ineptitude. A government shut down increases the odds of a delay to tapering until next year, which is good news for emerging markets. After coming under intense pressure during the summer, the Indian rupee has brushed off concerns about a government shutdown in the world’s largest economy, and continues to extend gains about the greenback on Tuesday.
Could a government shutdown actually be a good thing?
So who is to blame? According to a poll by Reuters, the government blames Obama and the Republicans. However, the vast majority of Americans believe that all sides are all to blame. This is important, as public uproar could force the battling Congress to come to an agreement to raise the debt ceiling before October 17th when the US’s self-imposed credit limit runs out. Thus, perversely, a US government shutdown may actually be risk positive if it causes the debt ceiling issue to go away fast. If the debt ceiling issue becomes as drawn out as this, we would expect a much more severe risk-off reaction in the markets.
Yen gains capped by Abe
It’s worth noting that in the rest of the world, where governments are open; there is a torrent of start of the month/ start of the quarter data. Japan has dominated things so far this morning the Tenkan index for 3Q was stronger than expected, while Japan’s PM announced he will push ahead with a controversial increase of the sales tax next year. Combined with risk aversion caused by the government shut down, one may have expected the yen to surge, but gains have been limited so far after PM Abe softened the tax increase blow by implementing a 5 trillion yen stimulus plan alongside the tax increase, which has kept USDJPY range bound between 97.50 – 98.80, the recent high.
Could the US be more European than the Europeans?
In other messy political news, Italian bond yields are moving higher once again today and are knocking on the door of 4.6% as we wait for tomorrow’s confidence vote in the government. It looks like Berlusconi could be losing his grip on Italian politics, and it is still unclear if members of his Forsa Italia party will vote against the government in tomorrow’s vote. We expect a bit of nervousness to hit Italian bond markets today, but the FTSE MIB is actually recouping some of Monday’s losses. If PM Letta can win tomorrow’s confidence vote, then political and sovereign fears could evaporate pretty quickly.
Dare I say it, but Washington is starting to look more European than the Europeans.
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