A federal shutdown due to a funding lapse looks no less likely than it did two weeks ago, and Goldman Sachs believes the probability is nearly 50%. The Senate is expected to begin voting later this week on a funding extension, but the House looks unlikely to act until shortly before the September 30 deadline. The following attempts to answer the main questions surrounding the shutdown, debt limit, and ramifications...
- The current debate does not involve the debt limit. However, Congress looks increasingly likely to set the next expiration of spending authority around the time of the debt limit deadline. This is likely to lead to renewed negotiations to increase the caps on spending for 2016 and 2017, but could also cause greater uncertainty among consumers and market participants than a shutdown alone would.
- Based on recent daily cash flows at the Treasury, we estimate that the upcoming deadline to raise the debt limit is likely to fall slightly earlier than we previously expected, potentially coming around mid-November.
Q: Why are we talking about a shutdown again?
Congressional Republicans lack the votes to pass the spending bill they want, but are hesitant to pass a simple extension instead. Federal spending authority expires September 30, and some conservative lawmakers have announced they will only support an extension that strips the Planned Parenthood Federation of American (PPFA) of federal funding. There is sufficient support in the House to do so, but not in the Senate, and the President would be very likely to veto such a bill. By contrast, it is likely that a “clean” extension of spending authority that does not address the issue could pass both chambers of Congress and become law, albeit with more Democratic support than Republicans. That may be how the issue ultimately gets resolved, but Republican congressional leaders are likely to first try to pass their preferred legislation.
Q: Is Congress any closer than they were two weeks ago to resolving the funding extension and avoiding a government shutdown?
Not really. On September 18, the House passed legislation to defund PPFA. The Senate considered similar legislation over the summer, but it won only 53 votes, 7 short of the 60 normally needed to move forward. Neither chamber has voted yet to extend spending authority past the current September 30 expiration, though preparations are being made in the Senate to do so.
Q: What is the outlook?
Murky. Two weeks ago we wrote that we thought the probability of a shutdown was nearly 50%, though we leaned slightly against a lapse in funding actually occurring. Since then, the political temperature around the issue has fallen and risen; Republican leaders have offered potential plans to avoid a shutdown, but none have won the support of the group of Republican lawmakers in the House driving the opposition to a clean extension of spending authority. At this point we continue to lean slightly against a shutdown, but it would hardly be surprising if it did ultimately happen, particularly because some Republican leaders might ultimately see a short shutdown as the best way out of the current situation.
Q: What’s the schedule from here?
Things may start to move later this week. The Senate is expected to vote on legislation later this week to extend government spending authority past September 30. The initial version is likely to include a provision to block funding to PPFA. Assuming this first attempt fails, Senate Republicans are then likely to bring up a “clean” extension of spending authority. The House, which is in recess until Thursday (September 24), looks unlikely to take up spending legislation this week, and may wait to receive whatever spending extension the Senate passes. The upshot is that, unsurprisingly, it looks like the issue will be resolved no sooner than September 30.
Q: How does the current situation compare to the 2013 shutdown?
They look very similar. With only a week to go before the funding deadline, the situation bears close resemblance to the situation in 2013, when congressional Republicans were split over whether to use the extension of spending authority to block implementation of the Affordable Care Act (ACA). At that point, there had been sufficient support in the House to do so, but not in the Democratic-majority Senate; the Senate now has a Republican majority, but they still lack the 60 votes needed to send legislation that Democrats oppose to the President’s desk. The ultimate decision is seen to rest with House Speaker Boehner who, just like in 2013, faces pressure from conservative members of his caucus to reject a clean spending extension, even if doing so results in a shutdown.
That said, the current situation differs from 2013 in some respects. The PPFA issue has received a fair amount of attention, but it does not appear to be as politically salient as the ACA was in 2013. At that point, around 80 House Republicans signed on to the plan to use spending legislation to block ACA implementation; only about 30 have signed on to the current gambit. Public opinion polls show less unanimity among self-identified Republicans this time around as well; a smaller majority opposes PPFA than opposed the ACA in 2013. In one recent poll, a majority of Republicans, despite supporting the defunding of PPFA in principle, opposed shutting down the government over it, in contrast to 2013 when some polling suggested a narrow majority of Republicans supported shutting the government as a way to block ACA implementation.
Q: What would the economic effect of a shutdown be?
Real GDP growth in Q4 would decline by at least -0.2pp for each week the government is shut down. We think about a potential shutdown having four basic effects: (1) the direct effect of furloughing federal workers; (2) the direct effect of reduced federal spending on purchased goods and services; (3) the direct effect on private-sector activities (e.g., halted projects awaiting federal approvals, etc), and (4) the indirect effect of a shock to confidence on employment, investment and consumer spending. The first category has the largest effect, we believe. If a shutdown occurs next week and were handled the same way as prior shutdowns, about 40% of federal workers would be sent home—the rest would be exempted because of their job responsibilities—representing about $2bn in lost compensation for each week that funding lapsed and lowering real GDP growth in Q4 by just under 0.2pp for each week of shutdown. That effect would roughly reverse in Q1 (assuming the shutdown had ended) as federal output returns to a normal level.
The direct effect on federal procurement of goods and services would be much smaller, particularly at the outset, since delayed orders would likely be made up once the shutdown has ended. We would expect virtually no effect on federal investment and purchases of durable goods, which have long lead times and generally rely on private-sector production that would be unaffected by the shutdown. There are some examples of contracted services that might be affected—for example, janitorial and food services for which there would be no need if federal employees were not at work—but these are relatively small. Anecdotally, federal procurement of services actually declined at a slower sequential rate in Q42013 than it did in any of the four prior quarters.
The direct and indirect effects on the private sector are harder to quantify. The White House Office of Management and Budget released a report shortly after the 2013 shutdown that detailed some effects of the shutdown on private activity, such as stalled transportation and energy projects and delayed export shipments due to a halt in processing of federal permits and export licenses; and delays in lending due to the inability to verify income via the Internal Revenue Service (IRS), for example. It is difficult to estimate what effect this might have had on output, particularly since much of the postponed activity was probably made up during the same quarter.
On a monthly basis, our Current Activity Index declined slightly in October 2013, though less than it did around other important fiscal deadlines and well within its typical month to month range (Exhibit 1, left panel). That said, one area where the effect of the shutdown did show up fairly clearly was consumer confidence, where sentiment dropped for three weeks, bottoming around the time the debt limit was finally increased on October 16 of that year (Exhibit 1, right panel). Overall, this sort of effect suggests that there could be a modest negative impact on growth from a shutdown beyond the direct effect from furloughed workers, so we would expect that each week of shutdown should reduce real GDP growth in the quarter by at least 0.2pp. That said, assuming a shutdown is short-lived, the growth effect would reverse the following quarter.
Nearly all government data releases would be postponed. In 2013, virtually all scheduled releases of economic data collected by the federal government were postponed until after the government reopened. There are two notable exceptions: first, jobless claims numbers were released on schedule in 2013, even though other key labor market data, like the monthly employment report, were not. Second, the Fed continued to release data on schedule because, as an independent agency, it does not rely on Congress for funding. Releases from private organizations (e.g., ISM, NFIB, Conference Board and University of Michigan, to name a few) would be unaffected.
Q: How would financial markets respond?
We would expect a muted market reaction. The main reason is that the shutdown itself is likely to be seen as a temporary event with little bearing on the medium-term outlook. While it is true that previous shutdowns have been associated with a rise in equity volatility, as shown in Exhibit 2, this was generally the case with shutdowns that overlapped with debt limit deadlines—the 1990 and 2013 shutdowns—rather than other shutdowns where the debt limit deadline was not about to be reached.
Q: Does this debate have anything to do with the debt limit?
Not yet. Unlike the last government shutdown, which happened to overlap with a debt limit deadline two weeks later, raising the debt limit isn’t currently being debated. However, the extension of spending authority that is expected to pass soon may be constructed so that it expires around the time of the next debt limit deadline later this year.
Q: When will the debt limit be reached?
Probably in November. The Treasury estimates that the “extraordinary measures” it uses to increase borrowing capacity under the debt limit will not be exhausted before late October. As of the end of August, the Treasury appeared to have exhausted most of its bookkeeping strategies, with only about $60bn remaining (mainly the $23bn of the Exchange Stabilization Fund that is invested in Treasuries and $36bn related to the Civil Service Retirement and Disability Fund). However, it also has a substantial cash balance ($146bn as of September 18), which will provide an additional cushion once the Treasury exhausts its borrowing capacity. In the past, the Treasury has based the projected deadline for raising the debt limit that it announces to Congress assuming that the cash balance will not be allowed to go under $50bn, though on occasion it has allowed it to dip to $30bn preceding a debt limit increase.
If the Treasury once again bases the deadline it announces to Congress on a $50bn minimum cash balance, we would expect the deadline to fall sometime in mid-November (Exhibit 3). Absent an increase in the debt limit, Treasury’s cash balance would probably run dry sometime by early December. This is in line with our previous estimate, as well as the Congressional Budget Office’s August estimate, though cash flows over the last few weeks—in particular, revenues were a touch lighter than we expected—suggest the deadline might come closer to the front of the late-November to early-December range we had previously estimated in July.
Courtesy Tyler Durden, founder of Zero Hedge (More Zero Hedge articles Here)
Courtesy Tyler Durden, founder of Zero Hedge (More Zero Hedge articles Here)