US political stalemate may stymie recovery

Baring Asset Management’s Andrew Cole has warned that economic growth in the US will take a hit from the political impasse about the country’s budget.

Mr Cole, investment director on the company’s global multi-asset group, said although a last-minute deal to approve a budget is the “most likely outcome”, a small reduction in US GDP for the quarter was “to be expected”.

He added that politicians from either side of the political divide would likely have to give ground, meaning a greater chance of fiscal tightening in 2014.

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The US government had to enact a partial shutdown last week, which meant it put non-essential staff on unpaid leave until a budget for the 2014 fiscal year could be agreed upon.

The situation has become even more serious because the country has to agree on whether to extend the debt ceiling beyond its $16.7trn (£10.4trn) limit on October 17.

If politicians fail to reach an agreement, Mr Cole said US president Barack Obama would have to choose which federal bills to prioritise to “avert complete paralysis”.

“As a result, additional fiscal tightening is likely in 2014 as the federal government looks to rein in expenditure,” he said.

“Such a move may well mean the Federal Reserve will look to keep monetary policy relatively stimulative, maintaining its asset purchase programme at or near the current rate of $85bn per month.

“In other words, it might be longer than many market commentators think before the Federal Reserve begins to reduce its programme of bond purchases in earnest.”

Mr Cole said US equities had been “somewhat weaker” on the day before the shutdown took effect, with global equities “mirroring this”.

“The US dollar has also dropped back, along with Treasuries, as investors shy away from the US as a result of the current uncertainty,” he said.

“The bigger concern is that there will be no progress on a deal to raise the debt ceiling.”

Mr Cole added that he had positioned his multi-asset funds for the likelihood of political brinkmanship in the US.

“From where we stand, the shutdown was a long-expected event, given the pre-existing tensions between the two parties. [As a consequence] we positioned the multi-asset portfolios we manage in advance of the event,” he said.

Elsewhere, David Harris, head of US multi-sector fixed income at Schroders, agreed the debt ceiling debate had “potentially more important consequences”.

“Near-term implications of the government spending stalemate are mainly economic,” he said.

“A shutdown for less than a week will have a minimal impact on Q4 growth and the market consensus is that there are no lasting effects aside from some lost wages and perhaps weakened confidence.

“[But] the longer the US government shutdown goes on, the larger the economic impact will be.

“Beyond two weeks the impact would begin to accelerate, as most wages lost would not be made back and we would begin to see the secondary effects of productivity declines and business decisions put on hold.”