Testing the Full Faith & Credit of the US

<p>Markets turn their glare to Washington where partisan squabbles threaten to undermine the US economy once again. Congress has until Monday to pass a budget […]</p>

Markets turn their glare to Washington where partisan squabbles threaten to undermine the US economy once again. Congress has until Monday to pass a budget or a government shutdown will begin. At best, it looks as though some sort of provisional bill will kick the can. Democrats are taking a hard line on Obamacare and some Republicans are in no mood for compromise.

As traders evaluate the seriousness of a possible government shutdown next week and a debt limit crisis by mid next month, the latter is definitely the more serious concern. A government shutdown would not necessarily halt Social Security payments, but a debt limit crisis could do so, as well as stop veterans benefits, Medicare and Medicaid reimbursements.

The US Treasury has set October 17 as the date when the debt ceiling would most likely be breached. Treasury Secretary Lew said:  “If we have insufficient cash on hand, it would be impossible for the United States of America to meet all of its obligations for the first time in our history…the results could be catastrophic.”

While this may be viewed as just another crisis that will be solved in the last minute, the impact remains significant. The permanent loss of income for nearly a million government workers, already hit by sequestration, and paycheque delays to larger group by October 15 would weigh on consumer demand and retailers anticipating Thanksgiving and Christmas activity.

Central Banks doing their Part

The looming crisis is giving the “full faith and credit of the United States” a run for its money. Despite the repercussions, the cost of US debt has remained exceptionally low due to the Fed’s insistence on capping bond yields. Last week’s surprising decision to maintain the $85 bn in monthly purchases intact will give the nation more time in keeping rates low. The Bank of England is also playing its part via MPC members’ latest speeches. So is the European Central Bank via reiterating its forward guidance of a “really low” bias on interest rates. In Japan, we haven’t heard of any more remarks regarding asset purchases, but the Cabinet is so far alleviating global markets by circulating renewed reports on cutting corporate taxes in order to offset next year’s sales tax hike.

Considering the deepening fiscal limitations of the US and the locked-in situation of QE3 from the Fed, the FX dynamics will continue supporting EURUSD above 1.3450, GBPUSD above 1.5900 and AUDUSD at 0.9270.

Join our live webinars for the latest analysis and trading ideas. Register now

GAIN Capital UK Limited (trading as “City Index”) is an execution-only service provider. This material, whether or not it states any opinions, is for general information purposes only and it does not take into account your personal circumstances or objectives. This material has been prepared using the thoughts and opinions of the author and these may change. However, City Index does not plan to provide further updates to any material once published and it is not under any obligation to keep this material up to date. This material is short term in nature and may only relate to facts and circumstances existing at a specific time or day. Nothing in this material is (or should be considered to be) financial, investment, legal, tax or other advice and no reliance should be placed on it.

No opinion given in this material constitutes a recommendation by City Index or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person. The material has not been prepared in accordance with legal requirements designed to promote the independence of investment research. Although City Index is not specifically prevented from dealing before providing this material, City Index does not seek to take advantage of the material prior to its dissemination. This material is not intended for distribution to, or use by, any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation.

For further details see our full non-independent research disclaimer and quarterly summary.