Government Shutdown: Where Do We Go From Here?

Tyler Durden's picture

In and of itself, the government shutdown appears to be a limited market event. The indirect effect, however, is on the other main risk scenario for markets – the deal on the debt ceiling (which will need to be in place before October 17). An increase in the probability of breaching the debt ceiling would likely be destabilizing for the market. For one, the effect on growth will be far larger – our economists estimate that it would imply an immediate cut in spending equal to 4.2% of GDP (4Q average of the fiscal deficit). Second, it would raise the risk of a US sovereign default because the Treasury does not believe it has the authority to prioritize interest payments above other obligations. As such, with markets firmly focused on US fiscal matters - so where to from here?


Via BofAML,

The US government shutdown will likely be relatively short lived, but there is a risk that it could drag on for some time and complicate efforts to increase the debt limit in a timely fashion.

The Treasury must secure a debt-limit increase before the end of the month, and the T-bill market has already begun to price in concerns about a late payment.

Where do we go from here?

With the midnight September 30 deadline whistling by without any substantive discussions to avoid a partial government shutdown, the question now is how long it might last. The leadership of both parties does not want to risk the political fallout of a protracted shutdown, but the rank and file are not yet in the mood to compromise. It may take outcry from voters and donors – and a stock-market selloff – to force some resolution. Polls generally suggest the public hold Republicans more responsible for the shutdown, and divisions within the party have started to appear in news reports.

If the House leadership can convince a majority of members that extending the continuing resolution for a few months allows them to continue the fight without damaging the party's national aspirations too much, then a quick resolution may be possible. Conversely, if more conservative House Republicans are unwilling to approach the negotiating table without some concessions, the shutdown showdown could last for some time. And the longer the delay, the more worries would arise around the debt limit.

Our base case is that the shutdown will be relatively short lived, but there is a tail risk that it could drag on for some time. A shutdown that ends this week would likely have little net impact on the economy. If it lasted for a couple weeks, that could trim about 0.5ppt from 4Q GDP growth. As a shutdown drags on, however, multiplier, spillover and confidence effects would lead to a bigger negative impact, in our view. A full month’s shutdown could trim 2.0ppt from 4Q growth, especially if accompanied by a selloff in the equity market as we would expect.

Fed in wait-and-see mode

The duration of the shutdown will also be relevant for the Fed policy outlook. Concern about the impact of the fiscal cliff helped motivate QE3 last year, and more recently Fed officials have cited uncertainty about fiscal policy as a reason they deferred tapering in September. Our base case is for a small taper in December. The longer the shutdown drags on, however, the more likely the Fed would be to postpone tapering until 2014, especially if a short-term extension of the continuing resolution results in persistent fiscal uncertainty going into the mid-December FOMC meeting. And any kind of "fiscal accident" over the debt limit would almost certainly delay tapering. Chairman Ben Bernanke has noted that the Fed does not have the means to offset another fiscal shock.

Debt-limit fight is the main event

In our view, the debt ceiling itself has the potential to be much more impactful for the markets than a government shutdown. Last week, the Treasury Secretary offered updated projections of when the Treasury will exhaust its so-called “extraordinary measures,” which are a set of accounting solutions that allow the government to keep issuing Treasuries to the public even though it has reached the debt limit set by Congress. These measures involve temporarily reducing nonmarketable debt securities in order to free up space under the debt ceiling to continue issuing marketable securities to fund the deficit. Treasury will have used up these measures by October 17 at the latest, and at that point the government will have to operate strictly on a cash flow basis. We expect the Treasury to cut net bill issuance in coming weeks in order avoid breaching the debt limit, which would result in a drawdown of the government’s cash balance. The Treasury expects to only have about US$30bn in cash as of mid-October, which will only cover a week or two of deficit spending. Our projections show that it will be virtually impossible for the Treasury to get past November 1 without a debt-limit increase, otherwise the risk of default will rise to uncomfortably high levels. T-bill yields have risen this week, with the late October maturity bills currently trading about 8bp cheaper than the late-November issues, indicating growing concern about the possibility of a late payment.

Rates implications

A shutdown by itself should have only modest implications for the Treasury market, in part because investors had already priced in increased fiscal risks in the two weeks since the FOMC meeting, which served to focus investors on these downside risks. If the shutdown lasts more than a few days, however, we would expect a modest further rally in Treasuries, particularly in the 5-10y sector of the curve, and some widening in swap spreads. Data releases (except for those released by the Fed) could also be delayed. In the 1995 shutdown episode, for example, the December 1995 employment report was delayed by two weeks. A delay in payroll numbers could result in a decline in shorter-dated volatility, in our view.

The debt ceiling has the potential to be much more impactful for the market, and a protracted debt-ceiling battle could lead to a more meaningful rally in rates. We also expect T-bills maturing in late October and early November to experience further selling pressure as the debt-limit deadline approaches. However, we do not expect significant outflows from money funds as occurred in 2011, because the expiration of unlimited FDIC insurance on bank deposits has eliminated deposits as a safe-haven alternative to money funds for many investors.

Whither the USD?

While the FX market is confident that Congress will reach a timely agreement (mainly because they have done so in the past), risks of failure could be underpriced. The impact on the US dollar under different debt ceiling scenarios is not straightforward. In the run up to a debt ceiling deadline, dollar performance will likely hinge on the market’s conviction that a deal to raise the debt ceiling will be reached. If the markets believe a deal will ultimately be reached as the deadline approaches, the USD could depreciate even if equity markets decline amid a broader reduction in risk sentiment.

This situation would be similar to the past week where hedge funds sold USD as shutdown uncertainty increased (though most expected a deal) and equities declined. Such a scenario would favor the JPY and CHF against risk-sensitive, commodity-linked, and EM currencies. However, if investors become increasingly uncertain about the ability of politicians to reach a deal in time, the USD would likely appreciate alongside the JPY and CHF amid a broader decline in risk sentiment.

In the unlikely event that the US experiences a credit event as a result of a failure to reach an agreement to raise the debt ceiling, the dollar would likely be supported by safe-haven demand as global risk assets would decline significantly.

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Dollar Bill Hiccup's picture

This is a terribly run 3:30 ramp job today. My goodness, can't these jokers do anything right anymore?

Truly appalling.

Zer0head's picture

Where do we go from here?

script has already been written and distributed on a need to know basis, Jamie and Lloyd delivered copies earlier today


PS Ben got his copy just before the taper no taper meeting

Dollar Bill Hiccup's picture

Dump the ramp in futures after cash close, apparently.

Oh, but the night is young. And we have a special treat, an interview with Dear Leader coming up now.

TruthInSunshine's picture

Some will claim I'm exaggerating, but in reality, I doubt it:

If 1/3* of all government employees (out of a total of 23,000,000 at the federal, state & local levels of government, NOT including contractors or enlisted military personnel) were given pink slips tomorrow, and the remaining ones became as productive as their private sector counterparts, NO TAXPAYER WOULD NOTICE ANYTHING ADVERSE, AND COULD RECEIVE SIGNIFICANTLY LOWER TAX RATES/BURDENS.

Such a logical right-sizing of government would save taxpayers, at minimum, close to a trillion USD annually (and arguably MUCH MORE once an accurate aggregate amount of wages + benefits were tallied).

*Arguably more than 1/3.

TwoShortPlanks's picture

"Where Do We Go From Here"...ummm...China?!

Gold, US sovereign coup d'état, and ‘Trading Places’


Money Maker's picture

I stoped reading this crap at...

 if more conservative House Republicans are unwilling to approach the negotiating table without some concessions

Pool Shark's picture



Padishah Emperor Shaddam IV (aka: Obama) received a visit today from Spacing Guildsmen (aka: LLoyd and Jamie).

Their message?

"A new Freemen leader, Boehner, has stopped fiat mining in Washington! Our navigators suggest he is not of Washington. No one on the outside world has been able to see him. We do not know who he is. The Democrats cannot stop him. Remedy the situation! Restore fiat production! Or you will live out your life in a pain amplifier!"

 "The Fiat Must Flow."

 [apologies to Frank Herbert]


Harbanger's picture

The Fed is the new Market.  They give money to the Banks and the Banks buy whatever they are told.  The Fed will do whatever necessary to continue propping-up the market and the statist in chief.  That being said, I wouldn't be surprised if they cause a market correction as this shutdown continues.  To show the "folks" why the Gvt must be funded at all costs.

Ruffcut's picture

I'm going to where I apparently belong, in the bunker.

The rude awakening is for all of us who thought we had any wealth.  oopsie, watch out, bitchezz

optimator's picture

I noticed that, 12 minutes late today.

fooshorter's picture

Vampire Squids? In my Fiat based Economy? Its more likely then you think! Click here to download MyCleanGuillotine ....

Devotional's picture

I still think that some compromise will be reached in the USA, the republicans will give in to Prince King Obanana. The USD will then rally, S&P500 lifts off to comet ISON.

this is right, right? o_O

Dr. Engali's picture

To hear Zero tell it, we go straight to hell from here. Dimon and Blankfein says it's time to roll out the tanks.

optimator's picture

If only I was a fly on the wall when the  Banksters had their little talk with obama today I could tell you what is going to transpire.

SheepDog-One's picture

Destabilize the 'market'! See if I give a fuck! What am I supposed to be, scared?

NOTaREALmerican's picture

I'm going out on a limb here, but I'm predicting the Red and Blue Team will both declare victory, their dumbasses will battle over who really did win, the debt ceiling will be raised, the Red and Blue Team dumbasses will fight about "those people", Amtrak and NPR, the Fed will continue to create money, and the top 10-20% will get richer.

Dr. Engali's picture

In other words .... Business as usual.

SheepDog-One's picture

Must....increase....Debt Limit.....In....'Timely Fashion'.....

CHOP CHOP! Banksters are getting antsy!

Bay of Pigs's picture

"Get busy Mr Chairman"

Lil Chuckie Schumer

Devotional's picture

meanwhile in Portugal the government is drawing up its budget ... aaaaaand now we have the Budget Agency threating with strikes next week. Oh, they had a strike today. See? government workers being effiecient again.


before I forget ... LOL

dexter_morgan's picture

Is any further evidence needed to know this is just one big fucking publicity stunt?

SheepDog-One's picture

Seems to be plenty of money to pay 30 workers driving heavy machinery to set up barricades to a memorial which doesnt cost anything to let people look at. 

GeezerGeek's picture

The current administration uses every spending restraint - sequestration, lack of a continuing resolution, etc. - as an excuse to induce maximum discomfort on We the People. The first thing to be cut should be government salaries. Or maybe their necks (figuratively speaking, of course).

centerline's picture

Tonight, we dine in Hell!


(sorry, had to).

docmac324's picture



CONgress is there, too.


falak pema's picture

the banking community and NSA : we are NOT amused!

Do something you jack assess; we own you and we'll disown you if you continue at this! 

We'll give Putin the Peace Prize just to spite you, you nin com poops!

Gringo Viejo's picture

Political Theatre. Debt ceiling to be raised, minor show cuts in spending. In short, more of the same stop gap bullshit until the string finally runs itself out.

Atomizer's picture

Where do I go from here, The Devil and Daniel Mouse?

Party of The 1st Part

CaptainSpaulding's picture

I go to John Harvards brew house. My analyst/ bartender is on duty tonight

Atomizer's picture

Wish I could. In the southern climate zone of USA. No chance of me heading North to chilly morning temperatures. Send your analyst my love. :)


CaptainSpaulding's picture

I am sure they have something similar. Try your local pub. Stimulate the economy

Atomizer's picture

I've tried that years ago. It's like talking to a deer in headlights. I began with Market Watch prior to crash. Out grew out of the form. By accident, found Zero Hedge during the blog spot days. Never turned back. This is my soundboard. How would you pull off the explanation of a treasury auction to a drooling liberal who wants to pay dinner with a EBT Card, similar credit reward points, or other fuel discounts/special reward dining rebates. 

Let the leeches feed off the last tidbits of host.

ShrNfr's picture

Since GDP = I + C + G + E - X where I is investment, C is consumption, G is government spending, E is exports and X is imports, of Course the fucking GDP will go down whe the government spends less. Duh?? But if the government spending is just pissing down ratholes, it isn't a bad idea. Long term G = (T+B) = taxes + borrowing. If you do not have to borrow as much to give Ben a chance, things are better all over.

Sixdeuce062's picture

we go to galts space fortress its way better than galts gultch

ebworthen's picture

Debt ceiling debate and a breach would be good for the bankers and Wall Street.

They've already offloaded most of their stocks to the retail/pension crowd (Netflix, Tesla, Best Buy, etc.).

A breach of the debt ceiling and a market crash will hurt Mom and Pop investors the most - and the Treasury if it spikes rates - but Treasury and FED have Ctrl-P to infinity.

The bankers know that if they are in danger they will be given a teat of the she-wolf or Capitoline wolf of government to suckle off of at the taxpayers expense. 

Lloyd "Romulus" Blankfein and Jamie "Remus" Dimon will not be denied in the New Rome!

JR's picture

A financial meteor is headed for the U.S.A. And it is not the debt ceiling deadline. It is ObamaCare. And it is highly inappropriate for BofAML to provide the danger signals on the debt ceiling or default and to completely ignore the economic impact of ObamaCare.

When a program like the Affordable Care Act invades a healthy business climate and the estates of private sector individuals, significantly transferring the wealth of productive Americans to non productive Americans on both sides of the spectrum, the impact is likely to be far greater than a temporary default in government obligations.