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Commentary

The US Government Shutdown Drama

Panic! The US Government Might Shut Down! The game is over! Or so we will hear over the next two days.

The concept: The US House of Congress (Lower house) has decided to extend government funding only if Obamacare – the Affordable Healthcare act – is delayed for a year. The Lower House is controlled by Republicans, and the upper house (Senate) by the Democrats. The Dems wanted Obamacare so they won’t agree to any such condition. Effectively, if there is no resolution reached, the government will have to come down to a minimum, and put a lot of people out of work:

The past day’s developments raised the prospect of the first government shutdown since 1996, putting as many as 800,000 federal employees out of work starting Tuesday, Oct. 1.

But this is not unprecedented. The US has seen at least 17 times since 1977 and things come back after a short while.

The republicans are adamant they will extract some concessions – delay Obamacare (which will increase spending) and remove a tax on medical devices (which will increase revenue).

There’s also a debt limit “crisis” coming up. I’ve written about the debt limit before. The consequences of not increasing the debt limit by October 17 is that the US government will have to technically default (they have to borrow more to pay back the debt they owe, and with a debt limit they can’t borrow more).

Read an excellent paper on how in the past, debt limits have been increased many times earlier. In fact, we’ve had seven debt limit increases since 2008.

Eventually, like in India, political parties (or in the US one opposition party) will use the situation to extract concessions. And because desperation is what drives behaviour, everything will be left to the last minute.

If you are an investor, it would be useless to panic on this news right now. Tonight – September 30 – the government funding extension decision happens. If it doesn’t go through, the immediate impact on the markets will be negative, largely driven by sentiment (“They actually let the government shut down!”).

But it is very likely a last minute compromise will be worked out. And the same for the debt limit. The back-and-forth discussions will meanwhile continue to spook markets, which nowadays act like they are on crack cocaine. And it impacts other things. To give you one example – no-increase in the debt limit means the “taper” is immediate, there is no question of the Fed buying $40 billion of government debt per month when the government can’t issue any.

The answer to “Will they let it happen?” is always a “No way!” until one day they do. Will they go “Boo”?

  • Ravi says:

    Well said Deepak. The word ‘Drama’ describes everything that needs to be said about these shenanigans. But it would be interesting to see if Fed takes any other route to continue the QE (I remember reading that there might be other options?) or if they wait till the debt ceiling is raised to get ‘off the wagon’ 🙂