At midnight on September 30th the government officially shutdown with non-essential staff being furloughed. There has been a lot of fear mongering on both sides of the aisle as they negotiated, in good faith and bad faith, spending on your perspective. In reality, the shutdown is not likely to do much damage to the economy unless it turns out to be a protracted affair. This isn’t the first time the government has shutdown and it surely won’t be the last. The longest government shutdown occurred between December 15, 1995 and January 6, 1996, which lasted about three weeks. There was a five-day shutdown in November 1995. In the 1980s, government shutdowns were more frequent but in most cases were shorter in duration.

A government shutdown has never been a disaster to the stock market or the economy. Deutsche Bank issued a report out that was posted on Zero Hedge that gave some statistics regarding shutdowns. Deutsche Bank found that during prior seven shutdowns from 1984 to present, the average loss in the S&P 500 was only 0.2%, the maximum loss was only 2.4%, and 10 days after the end of the shutdown the index rebounded 2.1%. It could be different this time, but if history is any guide it could represent a buying opportunity, especially after the market declined a bit over the past week.

Current estimates of the economic impact of a shutdown vary depending upon its duration. Since the wages of federal employees are counted as nominal GDP output, their furlough has a direct impact on growth. According to Ned Davis Research (NDR), if this shutdown is anything like the 1995-1996 experience, 36% of federal employees will lose pay during the shutdown. An estimated impact on nominal GDP would be about $23.1 billion at an annual rate, if government offices are closed for one week. That is equivalent to subtracting about 0.1% from nominal GDP growth in the fourth quarter. Hardly a disaster! A one-month shutdown will reduce GDP proportionately more and would have a more meaningful impact. However, in prior shutdowns the furloughed employees were paid back wages, and that would be likely to happen again, offsetting a portion of the decline in GDP.

In our opinion the bigger threat to the markets and economy comes from the debt ceiling debate that is set to begin in a couple of weeks. If it is anything like it was in 2011, then we could see a rise in volatility and stress in the markets. The fiscal uncertainty is a big reason why the Fed did not taper bond purchases. Risks to the market and economy would definitely rise if the current shutdown persists into the debt ceiling debate.

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