Weekly Economic Commentary

Here we go again: Showdowns and shutdowns

Chief Economist Eugenio J. Alemán discusses current economic conditions.

While government shutdowns impact the economy directly and indirectly, the magnitude of the impact is determined by the length and scope of the shutdown. Some operations can continue in a “partial shutdown” scenario, and thus impact the economy differently. During a shutdown, the government temporarily pauses nonessential operations and furloughs nonessential federal workers and halts appropriations of what is called discretionary spending, which is about 27% of total federal expenditures. Meanwhile, mandatory spending like Social Security and Medicare will continue, as they do not require annual congressional approval. However, some of the services associated with the provision of these essential services could be affected if workers are furloughed.

GDP (Government Spending Component):

Over the past 3 years, government spending has represented about 6.6% of total GDP. Out of that 6.6%, about 2/3 goes to mandatory spending—according to the U.S. Treasury—which would be marginally impacted by the shutdown (e.g., Medicare, Social Security, etc.). The remaining 1/3 that goes to discretionary spending would be more impacted. Also of note, shutdowns don’t cancel spending but delay it. If the shutdown is short-lived, spending will catch up within the same quarter-reporting period and no subsequent measured effect will be felt on GDP.

Historical example from the Congressional Budget Office (CBO): The CBO estimated the GDP impact in 2019 to have been about -0.2 PP percentage points from the headline number (1Q19), but they also mentioned that this negative impact was made up for in subsequent quarters. (This government shutdown lasted about 1 month.)

Employment (Federal Employees):

To put things in perspective, federal employees make up, on average, ~2% of the total U.S. nonfarm payrolls. Even if the government does shut down, not all these workers will be impacted as ‘excepted’ workers will continue to contribute to the limited functions of the government. Those impacted will be ‘furloughed’ and not laid off, which is an important distinction since they will receive the pay back after the shutdown ends. Thus, their contribution to GDP may, in a worst-case scenario, be detracted from the current period but added back once the government reopens.

Perhaps the biggest issue for furloughed federal government employees will be dealing with the payments of debts, especially if they are living paycheck to paycheck.

Other Indirect Effects:

PCE: Personal Consumption could fall as government workers’ delayed paychecks would cause a temporary pullback in their personal spending.

Employment other than federal employment: Although federal government employees will go back to work once the shutdown is over, that will probably not be the case for workers in other industries that service the Federal government as suppliers as workers in retail businesses that provide services to those federal employees, especially in the Washington DC area. These disruptions are hard to measure and will also depend on the duration of the shutdown.

Investor sentiment: From process disruptions and deteriorating confidence in the government, different asset classes could be harmed. However, we expect that impact to be very limited and short- lived.

Credit Rating: As seen in news headlines, credit ratings such as Moody’s expect an impact on their U.S. ratings should Congress allow a government shutdown to take place. This could mean putting the U.S. debt in review for a downgrade and/or going ahead with the downgrade. The impact of such an event is very hard to measure because it could, potentially, severely affect investor confidence.

Federal Data Reporting Agencies: Federal agencies that report economic data including the Bureau of Labor Statistics, the Bureau of Economic Analysis, etc., will not release economic data during a shutdown. This would add several layers of uncertainty to the ‘data-dependent’ Federal Reserve as important economic indicators are used to determine its monetary guidance. In fact, in just over a month, the next FOMC meeting will take place, and members of the Fed will certainly be eager to look at what economic data such as inflation (10/12), employment (10/6), and other indicators have done since its last meeting in order to steer its monetary policies in the right direction.

Federal Reserve: Although it is too early to tell because we don’t know the length of the shutdown, the Federal Reserve will probably not increase the federal funds rate during its October/November Federal Open Market Committee meeting if the shutdown is still in place as it will try to not add more uncertainty to an already uncertain environment. Furthermore, if the shutdown remains in place well into December, the Federal Reserve will probably skip increasing interest rates during the last meeting of the year. Once “normalcy” is restored and data is once again available, the Fed will decide on the path going forward.

Economic and market conditions are subject to change.

Opinions are those of Investment Strategy and not necessarily those of Raymond James and are subject to change without notice. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. There is no assurance any of the trends mentioned will continue or forecasts will occur. Last performance may not be indicative of future results.

Consumer Price Index is a measure of inflation compiled by the US Bureau of Labor Statistics. Currencies investing is generally considered speculative because of the significant potential for investment loss. Their markets are likely to be volatile and there may be sharp price fluctuations even during periods when prices overall are rising.

Consumer Sentiment is a consumer confidence index published monthly by the University of Michigan. The index is normalized to have a value of 100 in the first quarter of 1966. Each month at least 500 telephone interviews are conducted of a contiguous United States sample.

Personal Consumption Expenditures Price Index (PCE): The PCE is a measure of the prices that people living in the United States, or those buying on their behalf, pay for goods and services. The change in the PCE price index is known for capturing inflation (or deflation) across a wide range of consumer expenses and reflecting changes in consumer behavior.

The Consumer Confidence Index (CCI) is a survey, administered by The Conference Board, that measures how optimistic or pessimistic consumers are regarding their expected financial situation. A value above 100 signals a boost in the consumers’ confidence towards the future economic situation, as a consequence of which they are less prone to save, and more inclined to consume. The opposite applies to values under 100.

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GDP Price Index: A measure of inflation in the prices of goods and services produced in the United States. The gross domestic product price index includes the prices of U.S. goods and services exported to other countries. The prices that Americans pay for imports aren't part of this index.

The Conference Board Leading Economic Index: Intended to forecast future economic activity, it is calculated from the values of ten key variables.

The Conference Board Coincident Economic Index: An index published by the Conference Board that provides a broad-based measurement of current economic conditions.

The Conference Board lagging Economic Index: an index published monthly by the Conference Board, used to confirm and assess the direction of the economy's movements over recent months.

The U.S. Dollar Index is an index of the value of the United States dollar relative to a basket of foreign currencies, often referred to as a basket of U.S. trade partners' currencies. The Index goes up when the U.S. dollar gains "strength" when compared to other currencies.

The FHFA House Price Index (FHFA HPI®) is a comprehensive collection of public, freely available house price indexes that measure changes in single-family home values based on data from all 50 states and over 400 American cities that extend back to the mid-1970s.

Import Price Index: The import price index measure price changes in goods or services purchased from abroad by U.S. residents (imports) and sold to foreign buyers (exports). The indexes are updated once a month by the Bureau of Labor Statistics (BLS) International Price Program (IPP).

ISM New Orders Index: ISM New Order Index shows the number of new orders from customers of manufacturing firms reported by survey respondents compared to the previous month. ISM Employment Index: The ISM Manufacturing Employment Index is a component of the Manufacturing Purchasing Managers Index and reflects employment changes from industrial companies.

ISM Inventories Index: The ISM manufacturing index is a composite index that gives equal weighting to new orders, production, employment, supplier deliveries, and inventories.

ISM Production Index: The ISM manufacturing index or PMI measures the change in production levels across the U.S. economy from month to month.

ISM Services PMI Index: The Institute of Supply Management (ISM) Non-Manufacturing Purchasing Managers' Index (PMI) (also known as the ISM Services PMI) report on Business, a composite index is calculated as an indicator of the overall economic condition for the non-manufacturing sector.

Consumer Price Index (CPI) A consumer price index is a price index, the price of a weighted average market basket of consumer goods and services purchased by households. Changes in measured CPI track changes in prices over time.

Producer Price Index: A producer price index (PPI) is a price index that measures the average changes in prices received by domestic producers for their output.

Industrial production: Industrial production is a measure of output of the industrial sector of the economy. The industrial sector includes manufacturing, mining, and utilities. Although these sectors contribute only a small portion of gross domestic product, they are highly sensitive to interest rates and consumer demand.

The NAHB/Wells Fargo Housing Opportunity Index (HOI) for a given area is defined as the share of homes sold in that area that would have been affordable to a family earning the local median income, based on standard mortgage underwriting criteria.

The S&P CoreLogic Case-Shiller U.S. National Home Price NSA Index measures the change in the value of the U.S. residential housing market by tracking the purchase prices of single-family homes.

The S&P CoreLogic Case-Shiller 20-City Composite Home Price NSA Index seeks to measures the value of residential real estate in 20 major U.S. metropolitan.

Source: FactSet, data as of 7/7/2023