As the Government of the US remains in shutdown and entered its eighth day on Tuesday, focus was predominantly shifted towards the Federal debt ceiling, which is currently at $16.7 trillion, and, unless raised, may lead to catastrophic consequences not only for the US but on a global scale.
Treasury Secretary Jacob Lew has warned that unless Congress agrees to pass a debt ceiling increase by October 17, the US will be “dangerously low” on cash and may default on its payment obligations. Lew also said that the “Congress is playing with fire” and the country risks default if, “for the first time in its history, chooses not to pay its bills on time”.
The Government is currently in a partial Federal shutdown as Congress failed to pass a spending bill to keep the Government running. Interestingly in 1996, the last time the US Government went through a Federal shutdown, the White House hired interns and among them was a young female named Monica Lewinsky…
A partial shutdown means essential Federal employees, like the Armed Forces, will remain functional, but other non-essential employees, which amount to more than 700,000, were furloughed starting on October 1.
This situation resulted from the continued squabbling between the two houses of Congress, a situation which drags on since President Barack Obama introduced the “Obamacare” Act to Congress. The Republican-led House expects concessions over the healthcare act every time a vital bill is discussed while the Democratic-led Senate refuses to budge.
The Government shutdown situation has now been overshadowed by the debt ceiling deadlock. Some Republican lawmakers are now voicing scepticism over the increasing warnings that failing to increase the debt limit would lead to a default. Republicans are arguing that the Treasury may prioritise interest payments to ensure it does not default on its obligations. House Speaker John Boehner said that he does not have the votes to make sure a Bill to increase the limit passes.
If a Bill to raise the ceiling does not pass, the Government will not have permission to borrow more and the Treasury will run out of cash shortly after the October 17 deadline. If this happens, the major consequences for the US will be the following:
Global markets may start to view the US Government as largely incompetent and could shatter investor confidence in the world’s largest economy; imposed spending cuts will delay the economic recovery significantly at a period when job growth fails to gather momentum; a default of its debt obligations becomes more likely despite a Bill passed by the House of Representatives to prioritise payments; a default by the US on its debt obligations could trigger a widespread global crisis, as the faintest concern that the US may not be able to honour its payments could ignite expectations for higher returns on bonds they hold and dealers make terms for which they accept Treasuries as collateral tougher; and finally, the Government’s already dire fiscal situation will only get worse.
Interestingly in 1996, the last time the US government went through a Federal shutdown, the White House hired interns and among them was a young female named Monica Lewinsky…
Currency markets traded quietly at the start of the week as forex investors remained on the sidelines as the impasse in Washington continued. Capital flows were predominantly towards safe-haven assets at the end of last week and at the start of this week, with the Japanese yen and Swiss franc being the main beneficiaries as demand for their perceived safe status increased. EUR/CHF stayed under the 1.2300 handle where it traded for most of the last two weeks, while USD/CHF touched 0.8968 last week after the government shutdown came into effect.
USD/JPY fell below the 97 mark to its weakest in more than eight weeks at 96.57 at the start of the week. The Nipponese currency was bullish across the board even in light of no major developments from Japan which kept the focus mostly on fiscal issues in the US. USD/JPY did regain some ground by the time of writing on Tuesday, and was up to 97.25 amid hopes that US lawmakers will soon strike an agreement, but its outlook remains bearish as long as the stalemate continued.
EUR/USD traded in a narrow range at the start of the week, but inched just above 1.36 on Tuesday as forex investors were ready to abandon the greenback on signs the US will fail to agree on a debt ceiling increase to avert its first ever default.
Upcoming FX key events:
Today: UK BoE interest rate & asset purchases target decision & US initial jobless claims.
Tomorrow: German CPI, US PPI, Canadian unemployment change & US Michigan consumer sentiment.
Technical key points:
EUR/USD is bullish, target 1.3700, key reversal point 1.3300. EUR/GBP is neutral. USD/JPY is bullish, target 105.60, key reversal point 92.50. GBP/USD is bullish, target 1.6400, key reversal point 1.5700. USD/CHF is neutral. AUD/USD is neutral. NZD/USD is neutral.
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Emman Xuereb is a trader at RTFX Ltd.