As we, as Americans, move towards the end of another year, there is one thing that remains on the minds of many in the country – what impact will the governmental shutdown and the American debt ceiling have on the coming fiscal year. The United States governmental shutdown began on October 1th, 2013 and lasted for sixteen days, until October 16th, 2013. Although, there has been much speculation surrounding the specifics on why the American government shutdown took place, the general consensus is that Congress did not enact adequate funds for the upcoming 2014 fiscal year.
Political debates aside, there was a great deal of division within the legislative branch that led to a clear disagreement across party lines, which resulted in the closure of many sectors of the United States government. Despite the fact that there is a great deal of concern with what this means for policy decision and lawmaking as a whole, the real question remains, what impact did the government have on the American people and especially, to the financial sector?
What directly happened during the interim of the government shutdown is very clear, as “during the 16-day shutdown, United States federal government employees were furloughed for a combined total of 6. 6 million days” (Fernholz & Yanofsky, 2013). According to the aforementioned research, the estimation is that this means that the total cost of pay for furloughed Federal employees during the extent of the shutdown is approximately $2. 0 billion (Fernholz & Yanofsky, 2013).
Based on this approximation alone, one can then assume that the total compensation costs due to furloughed workers, which includes benefits, is around 30 percent more, which makes it a total of around $2. 5 billion (Fernholz & Yanofsky, 2013). There were other negative aspects of the government shutdown, such as national parks being shutdown or programs being halted, each bearing their own future consequences such as lack of profit or assistance to the general populace; however, the largest consideration is the speculation on what this spells for the financial aspect.
In addition, the American financial sector has other concerns as the government shutdown is not the only thing that will project how well the United States will swing back from its financial downturn; a financial downturn that has been seen since the economic recession of 2007. The debt ceiling is another large concern of the American people and in the financial sector. During the shutdown, one of the biggest concerns was whether or not the debt ceiling would be raised, the latter of which would allow the United States to have a little more leeway when it came to sovereign debts.
The debt ceiling itself is considered a “legislative limit on the United States Treasury’s ability to borrow money” (Milrom, 2013). It was first created in 1917 in order to deal with the uncertainty that exists in the cost of war, and as a result of its emphasis being placed on the unknown and then responding to it; Congress can modify the debt ceiling during the appropriate time (Milrom, 2013). Congress saw the need currently, and before the debt ceiling was raised towards the end of October, the debt ceiling stood at a staggering $16. 69 trillion (Milrom, 2013).
If the shutdown had not ended and Congress had not dictated that the debt ceiling should be raised, then the United States would have capsized under its enormous weight of debt. The United States would have essentially went into default and if this would have happened, there would have been a large amount of selling of Treasuries, the United States would have led to a downgrade in overall credit rating, a potential stock market crash, and essentially, many of these would have culminated into another recession, however, potentially on a global scale (Milrom, 2013).
Although, the United States has managed to end the government shutdown and increase the debt ceiling in order to prevent potential economic trepidation such as what has been outlined above, these factors will still have a potentially negative effect of both local and foreign markets. According to Alen Mattich, in his expose in the Wall Street Journal, “Foreigners fear U. S. Default. Markets don’t”, a great deal of concern should be placed on what the impact of these considerations has on the United States Market as well as on the global outlook.
This analysis will be done by looking at the current market view of the United States, as well as determine why the American market is largely unconcerned about the upcoming fiscal year, as well as what current causes have affected the country’s economic situation. In addition, the analysis will examine the Chinese markets, which holds the largest amount of the United States debt, as well as other debt holders on a global scale. After looking at these market sectors a predication can then be made in regards to the United State and global market outlook for the upcoming fiscal year of 2014.
Current Market View Although, the article was written before the government shutdown ended and the debt ceiling was raised, its outlook, among other sources, will give one a substantial view of the state of current U. S. markets. As a whole, the government shutdown has already created quite the store, and although, the debt ceiling increase was highly desirable and prevented a potential economic recession akin to what was seen in 2008, other concerns surround the reductions in the Federal Reserve’s monthly bond purchase program (Mahn, 2013).
While these reductions may not be seen in 2014, at the earliest, this possibility coupled with the fact that the ceiling debt raise was only a quick fix, and it is undetermined whether or not there will be another raise, has led to increased market volatility (Mahn, 2013). According to Mahn’s rationale, the stock markets, despite their being unpredictable, is what many consider to be in a “Goldilocks” state, meaning the is not too hot to encourage the Federal Reserve and lawmakers to take immediate reaction, but it is not cold enough to cause another economic recession (Mahn, 2013).
Many of the causes of the unpredictability of the stock market have been mentioned previously, however, there are additional factors that have come into play. Factors such as choices of the Federal Reserve, the American dollar in relation to other currencies, inflation, deflation, the political landscape, as well as other economic indicators, can all have an impact on the U. S. markets, whether good or bad. Presently, many of these factors have led to the climate of uncertainty and have resulted in many verifying predications made towards the 2014 fiscal year.
Many of these predications have a negative display, however, this negativity ranges in the level of cataclysm that is expected to be seen, should many of these concerns not be eliminated. Essentially, “there is a big disconnect between the markets and just about everyone else” (Mattich, 2013). Despite the lack of definitive answers, there have not been any highly aggressive reactions towards many within the financial sector. As mentioned, many investors see the state of the stock market as being in a ‘Goldilocks’ state and therefore, there is no cause for alarm (Mahn, 2013).
Essentially, the one definitive term that would describe the current outlook in the American financial sector would largely be unconcerned, or rather “sanguine about the U. S. government shutdown and the threat of a U. S. government default” (Mattich, 2013). Many investors are seeing the turbulent markets as a positive and are reacting by building and maintaining a highly diversified portfolio, spreading it out in many different market sectors (Mahn, 2013).
In addition, investors are adjusting growth opportunities by seizing stocks that are low, and projected to return in worth or increase in the fiscal year, and thus, sell at a later date in order to see future profit (Mahn, 2013). These reactions seem somewhat positive in such a negative landscape, and are extremely different than the global reactions towards the current American economic landscape, especially after the government shutdown and the uncertainty in regards to the debt ceiling. Chinese Markets
Recently, Chinese Vice Finance Minister Zhu Guangyao has stated that the United States has a “responsibility” in controlling the ceiling debt, not simply fixing it in the immediate future, and must do all that it can to prevent global ramifications that would be seen as a result (Mattich, 2013). Although, this comment can be taken as simply a call to action, or a desire for the American country to make good on its current debt situation so that a long-lasting partnership can be continued, the commentary also speaks primarily of the growing unease that exists in global markets with the view of the American financial sector.
As of June of 2013 China holds approximately $1. 28 trillion of the United States Treasury bonds, which speaks of the 23% Treasury bonds that are owned by foreign interests (Mattich, 2013). In addition, United States Treasury bonds make up “38% of China’s foreign reserves, with U. S. securities overall approaching half” (Mattich, 2013). China also owns around $3. 5 trillion in dollar-dominated assets, which can be directly impacted based on the rate of the dollar to other currencies (Mattich, 2013). All of these factors are shaped by the current government shutdown, the debt ceiling, and other economic factors.
Both Japan and China are the largest holders of United States debt, which is shown in the major concerns in Beijing surrounding U. S. debt (Fisher, 2013). The main problem with a potential economic downslide in the U. S. market, in the view of China, is that the investments made will be significantly devalued. This could lead to not only a poor return on investment, but could create financial ruin in the Chinese markets as well, creating the potential for a possible global recession (Fisher, 2013). China’s response to the current government shutdown and debt crisis is also seen in the way that the Asian country is responding to these factors.
In the current Asian outlook, “China’s nervousness is reflected in the HKFE Clearing Corporation’s decision this week to lift the haircut it requires on U. S. Treasury bills held as margin for maturities of less than one year to 3% from 1%” (Mattich, 2013). This response can be seen as a negative one and speaks highly of China’s uncertainty with how well the American economy will do in the coming fiscal year of 2014. The belief is that immediate measures must be taken in order to prevent another recession that would allow the country to go into default, affecting any entity or country that owns American debt.
United States Treasury bonds should be one of the safer investments, as they are governmentally backed, however, by China’s reaction it is clear that this sends a “pretty strong signal” (Mattich, 2013). The signal is that there is very little faith in the American financial landscape, and if the ceiling is not raised again, and governmental discourse continues to be seen, there remains very little doubt with the potential for another economic recession.
Should another economic recession, on its own or through an American default, arise, this will dramatically affect the Chinese markets due to the vast amount of American debt that is held. The real question in regards to the Chinese market is whether these concerns are baseless or whether they have any real merit. As mentioned, the United States has reached a point where there is a grim outlook for the markets, as forecasted by many economists, financial advisors, and investors.
Where once the United States was extremely favorable, in terms of investment options, this is now the period in which the United States has been seen as a risk (Mattich, 2013). Although, American investors see the default as a “vanishingly small prospect”, China has not taken a bright view and their reaction seems to be echoed in other global markets as well (Mattich, 2013). Global Outlook Aside from the debt that the Chinese market holds, Japan owns $1. 1 trillion of United States debt, while Brazil owns $256 billion, Russia and Taiwan own around $151 billion, and the UK owns around $272 billion (Milrom, 2013).
Although, there are many more debt holders such as other nationalities, oil exporters or individual investors, this gives a general idea of how much American debt is spread out in a variety of different countries and sectors. The biggest problem surrounding the debt that is owned is the potential for the United States to default on it. Sovereign defaults, as well as debt restructurings have created contraction within a nation’s capital market as well as the possibility of the nation’s premier currency (Milrom, 2013).
The clearest example of this is with looking at countries that have already defaulted, such as Spain defaulting six times and Venezuela defaulting ten times (Milrom, 2013). Thus, there are global concerns with the state of the American economy and the potential that the government shutdown will lead to continued economic decline, as well as the potential for America to default on its debt. In addition to the negative perception of the American financial landscape, should America default on its debt, there are varying ways in which sovereign nations will deal with debt that they have obtained.
The United States Bankruptcy Code provides strict guidelines for debt restructuring, however this is for illiquid municipalities, organizations, and as individuals, instead of for the Federal government as a whole (Milrom, 2013). This has added to the uncertainty seen on a global scale, as well as the fact that all of these nations deal with debt independently. Essentially, “the international community has not adopted a universal set of procedures for administering sovereign defaults” (Milrom, 2013).
While China may experience harsh economic backlash from America defaulting on its loans, other debtor nations may be able to receive loans direct from the International Monetary Fund (Milrom, 2013). This not only affects the global perception of the United States, but increases the need to deal with the globalization aspect of the world – if one country falls into debt, any country that owns that debt will see backlash, or rather, and a ripple effect will occur. Many nationalities have weighed in on the predication for the global market for the upcoming year.
The consensus, as a whole, as been largely negative, with a great deal of concern surrounding the potential for the United States to not only slip into another economic recession, but to greatly affect other sovereign nations as well. The potential economic backlash could cause a global stock market crash, money market funds to collapse, failures in many global financial institutions, and the seizing up of much-needed lending (Farrell, 2013). Although, not all of these possibilities will come true, their possibility has created a great deal of fear in the global markets.
Conclusion Although, the government shutdown has ended and the ceiling debt has been raised in order to prevent the United States from falling back on its debt, there is still a great deal of concern surrounding the upcoming 2014 fiscal year. In the American sector, although there is some uncertainty with what’s to come, many investors are not worried about the coming year, instead seeing the turbulent landscape as a way to make investments across many different sectors with the hope that the stock market will eventually pick up, leading the way to a higher return.
The global market, on the other hand, is far more anxious due to the American debt that these sovereign nations hold. China, leading to the way in this concern, beliefs that if America’s financial problems are not fixed then this would spell immediate backlash, such as investments running sour and negative impact on their own national markets. No matter what perception one holds, the United States needs to raise the debt ceiling again, and although, the need may not come until spring of 2014, this would be the only way to keep the country out of another economic recession in the immediate future.
References Farrell, M. (2013, October 15). 6 ways a default could hurt the world. CNN Money. Retrieved from http://money. cnn. com/2013/10/15/investing/debt-default-doomsday/ Fisher, M. (2013, October 10). This surprising chart shows which countries own the most U. S. debt. Washington Post. Retrieved from http://www. washingtonpost. com/blogs/worldviews/wp/2013/10/10/this-surprising-chart-shows-which-countries-own-the-most-u-s-debt/ Mahn, K. (2013, October 29). 2013 Remaining market outlook and what to do next. Forbes. Retrieved.