Experts: Gov't shutdown won’t cause large economic turmoil, but will erode consumer and investor confidence

BUFFALO, N.Y. – There is a lot of uncertainty surrounding the United States’ government shutdown. How will it affect the economy? What are its long-term implications? What other damage might be taking place?

Two University at Buffalo School of Management professors believe that the government shutdown will have little impact on the economy’s bottom line but will erode consumer and investor confidence.

Veljko Fotak, PhD, associate professor of finance, and Scott Laing, PhD, clinical assistant professor of finance, say that a longer shutdown will also increase borrowing costs, and reduce GDP growth. The shutdown could also be a mechanism to fire federal workers, they say.

“Markets have largely been treating shutdowns as non-events, as, in general, shutdowns are effectively delays in payments that have little impact on the bottom line,” says Fotak. “The exception is the currency market, as the dollar tends to weaken during shutdowns. But equity markets have not been negatively affected in the past, while bond markets have shown very mixed reactions. That is partially due to flight to safety — when things get scary, people buy U.S. treasuries.”

This time could be different, though. The shutdown could delay the public release of important economic data and markets typically do not respond well to uncertainty, according to Laing.

“Shutdowns also delay key federal statistics — particularly Bureau of Labor Statistics reports on jobs and inflation — leaving markets and policymakers to operate with less reliable data, which can heighten volatility,” he says.

The Trump administration’s threats to permanently fire federal workers, as opposed to temporary furloughs, is also unique, says Fotak. “I struggle to find a historical precedent to this situation,” he says.

Fotak says that “traditionally when the economy wobbles, people flock to U.S. treasuries. Over the last six months, that mechanism seems to have broken[CN1] . Gold is still responding as usual – market uncertainties drive people into buying gold. But prices of U.S. treasuries and even the value of the dollar are now negatively correlated with market turmoil.”

The professors believe that the shutdown is a weak spot for the U.S. dollar, and a step towards eroding the dollar’s place as the reserve currency for most of the world.

Fotak adds, “The good news is, we won’t be able to see it for a while, if the shutdown delays the release of economic data, so we can live in our delusion that everything is ok for a couple of months longer.”

“Bottom line for consumers and investors is straightforward,” says Laing. “A shutdown is background noise until it interrupts pay. Once it does, it becomes a household cash-flow event that spills into confidence, travel plans, home closings and then into the broader spending data.

“The Fed is flying with some instruments out, households are facing a paycheck headwind, and markets are signaling that with a softer dollar bias, stronger gold and bumpier equities,” says Laing.