Wall Street is ignoring Washington, finally!September 26, 2013: 11:23 AM ET
There will be a compromise on this issue, and after some horse trading the debt ceiling will be raised, yet again. Investors know better this time.
By Cyrus Sanati
FORTUNE -- Wall Street does not seem worried about all the nonsense going on in Washington these days, and rightly so. The recent debates in Congress over the budget and the debt ceiling don't appear to be serious enough to warrant any real concern for the markets. Both parties are led by seasoned politicians who have shown that they can rise above the petty bickering of junior senators and no-name congressmen and come to a compromise that ends up supporting the status quo and the economy.
But even if the government does shut down, its impact on the economy should be minimal. Past government shutdowns didn't yield permanent damage to the markets, and as we have seen with the sequester -- life goes on even if budgets get cut. As for the debt ceiling, the Democrats and the Republicans learned their lesson a couple years back that playing with America's line of credit can have drastic consequences. To do so again would bring further distrust and anger from investors and voters alike.
Ted Cruz, the junior senator from Texas, took to the Senate floor Tuesday afternoon and began speaking about why he opposes funding for the Affordable Care Act (Obamacare) in next year's budget. He carried on for some 21-hours in a marathon speech that included a reading from Dr. Seuss and words of wisdom from country music star Toby Keith (seriously). Despite the ridiculousness of the whole affair, concern that the government could be forced to shut down spiked after Cruz's speech and was seen as one of the reasons the markets closed down on Wednesday, their fifth straight day of losses.
Some interpreted Cruz and his speech to be a filibuster, where lawmakers from the minority party talk and talk to kill or delay a vote on a particular bill. The bill in question is next year's budget, which needs to be passed before October 1 to avert a "government shutdown."
But this was no filibuster, it was just bluster by a media-starved junior senator with little support from party leadership. Cruz actually sought permission from Democratic Senator Harry Reid to make the speech and promised to wrap it up before the Senate voted on a procedural issue related to the bill. It was pure theater -- bad theater at that.
While the Republican-led House passed a version of the budget that eliminated Obamacare funding, as Cruz wants done in the Senate, the truth is only a minority of Republicans really oppose the idea. Indeed, just 80 signed the letter urging Speaker Boehner to cut funding in the budget bill. Seeing an opportunity to exploit the situation, Boehner pushed the House's Obamacare-less budget up to the Senate. He did so not because he supports the bill as written, but to use it as a bargaining chip to restore funding to some military programs, many of which were cut by the sequester earlier this year, a person close to the situation told Fortune.
This is clearly Washington at its worst, but it shouldn't spook the markets. One way or another the government will end up with a budget, but there is a possibility negotiations could go on past the October 1 deadline. This would force parts of the federal government to "shut down" -- it would be the 17th such shutdown in the last 37 years. The Congressional Research Service goes into detail here as to what a shutdown would entail, but suffice it to say it won't be the end of the world. Most shutdowns have historically lasted only two or three days. There are a few notable exceptions; in 1978 there was one that lasted 18 days, and in 1996 there was one that lasted 21 days. But those shutdowns occurred amid great political and economic upheaval involving Speakers and Presidents who had something to "prove." That isn't the case today.
Nevertheless, some investors are worried as to what a shutdown could do to economic growth. One way to figure this out it is to look at how much money employees impacted by a furlough could lose. Federal employee salaries make up about one-fifth of real federal spending and contribute about 1.5% of GDP, according to Morgan Stanley. That's a big number, but only around a third of those salaries will be impacted by a shutdown (the rest are considered "vital"), so we are really only talking about potentially wiping out just 0.5% off of GDP.
If you annualize that number we find that a shutdown could reduce quarterly GDP growth by 0.15% per week of a shutdown. That's not nothing, but it is pretty much a rounding error when you consider how short most shutdowns are. Indeed, when they are just two or three days long, most employees get retroactively paid so there is really no impact. A shutdown would have to last for several weeks to make a big enough impact on economic growth to warrant concern.
That being said there are some industries that could be hurt more than others from a shutdown, like civilian defense contractors. If they can't bill the government for services rendered, they won't be paid. The travel industry apparently hates shutdowns because the government stops issuing travel documents, forcing people who need to obtain or renew a passport to either delay or cancel their trips. But besides these few special cases, the vast majority of American businesses won't see much of a difference during a shutdown.
The budget is therefore clearly not much of an issue here, so what about the debt ceiling dilemma? There is talk in D.C. that the Republicans have been dragging out negotiations over the budget to coincide with the U.S. reaching the so-called debt ceiling. The view here is that the Republicans will leverage the threat of not signing off on raising the debt ceiling to get some more goodies in the budget from the Obama administration -- maybe even a promise to not fund Obamacare.
That isn't going to happen. The Republicans already played this game of chicken with the administration two years ago and lost, miserably. The pettiness of that fight is what pushed Congress's approval rating into the single digits and ended up forcing Standard and Poor's to take away the nation's triple-A credit rating. It was an epic blunder, but it was important for the Tea Party Republicans at the time to "send a message to Washington" that they were serious about cutting the deficit.
Well, the Tea Party is far weaker than it was in 2011, while Speaker Boehner and President Obama have, arguably, grown wiser in their positions of power. But if worse comes to worst, President Obama could probably get away with raising the debt ceiling through executive order, thus bypassing Congress altogether. That probably won't be necessary. There will be a compromise on this issue, and after some horse trading the debt ceiling will be raised, yet again.
The government may seem like a total mess sometimes, but it isn't as irrational as it seems. There will always be lawmakers who scare the public to get some attention, but they usually are on the fringe of either party and are basically irrelevant. You can be assured that when it comes to the nation's debt, no Republican or Democrat wants to be responsible for setting the timer. As such, it is best for investors to just ignore the theater in Washington and to focus their attention to more important matters, like the markets.