US: High risk of government shutdown - Westpac

Washington dysfunction will be on show once again in Sep/Oct when two separate albeit inter-related issues converge – a need to raise the ever contentious US debt ceiling as well as pass a resolution to fund government operations and avert a shutdown from Oct 1, according to analysts at Westpac.

Key Quotes

“Unified government could have been expected to remove the risks on this front. But, key players are even more polarised than usual, as the legislative failure around healthcare reform shows and the Administration has shown a disregard for established norms. Republicans hold 237 seats in the 435 seat House but that majority can be illusory. The House Freedom Caucus (formerly Tea Party) has about 35 members and they do not reliably vote in line with their fellow 200 House Republicans. The Freedom Caucus has long insisted that they will only support a debt ceiling increase if it is accompanied by spending reforms, the same demand they have made in the past, and this year is no different. But such “riders” will doom any legislation among more centrist Republicans in the Senate, forcing Republican Leaders into an uncomfortable position of crafting a bill in both Houses that appeals to Democrats.”

“The window is tight - the House is in August recess and sits for just 12 days in September where it must address both issues. Expect an acrimonious debate that goes right down the wire. The debt ceiling should eventually be raised, averting a technical default, but our confidence is lower than similar episodes in 2011 and 2013.”

“Failure to raise the statutory debt limit will leave the US at risk of technical default. The closer to technical default, the more severe the market reaction: yields on short term T-bills are likely to spike, risk appetite will take a hit while safe haven flows into longer term bonds should push long term yields lower. With doubts intensifying about the capacity of a Republican-led Congress to push through tax cuts and Fed tightening odds taking a hit, the USD should fall, probably sharply, though history is admittedly somewhat inconclusive on this front (see slide). Equities will of course take a knock and any real economy hit should at least initially be felt mostly in soft sentiment gauges.”