US shutdown risks are more long-term than short-term

Thought of the day

by Chief Investment Office 10 Jan 2019

After 19 days, the partial US government shutdown, which is now the second longest on record, appears no nearer a resolution. Discussions on 9 January between President Donald Trump and Democratic congressional leaders ended with the president walking out of the meeting after failing to overcome the impasse over USD 5.7bn funding for his proposed wall on the US-Mexico border.

In the near term, the shutdown is unlikely to have significant economic and market impact:

  • Appropriation bills accounting for 75% of discretionary spending have already been approved, so only 25% of discretionary spending is at risk. Shutdowns also tend to impact the timing of consumer spending, with a rebound once the issue is resolved.
  • If no agreement is reached, the debt ceiling will be reinstated on 1 March. But even in such circumstances, Treasury Secretary Steven Mnuchin would likely use extraordinary measures to pay the government’s obligations and stay under the statutory debt cap. This would defer the point at which the government is unable to pay its bills until about August, according to reported estimates.
  • Markets have actually historically performed positively when the government has been shut down. The US government has shut down 14 times since 1980, yet the S&P 500 delivered positive returns two-thirds of those times, with an average return of 0.4%.
  • Fitch has suggested it might downgrade the US' AAA credit rating as a result of the shutdown. But even in the event of a downgrade, the impact on Treasury yields is unclear. When Standard & Poor's downgraded the US in 2011, Treasury yields moved lower as the Eurozone debt crisis prompted safe haven inflows.As such, we currently don't think the shutdown will prove a major driver of equity markets, which will likely be more affected by developments in US-China trade tensions, Fed policy and economic data releases. That said, we will continue to monitor developments. The shutdown is indicative of the partisan nature of US politics, which doesn't bode well for a constructive agreement on the debt ceiling. If the ceiling is reinstated on 1 March, without an improvement in the political climate, investor attention could gradually begin to shift toward the risk of a debt ceiling collision later in the year.

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