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This time, politicians didn’t reach a last minute deal. When the clock struck midnight, the Republican controlled House and the Democrat controlled Senate failed to strike a deal on a new budget.

The US dollar was retreating on the imminent shutdown and continues this trend after midnight in Washington. This could be the prelude for the bigger event: the debt ceiling showdown.

The “shutdown” means that non-essential workers are now furloughed and will not go to work. Only essential services will remain open. There is uncertainty whether both the essential and non-essential workers will get paid.

Here are 4 implications on the broader economy:

  1. The drop in economic activity due to the current shut down lowers the US economic output. In the unlikely case that this last for a long time, the country could be back in recession.
  2. No chances for an “Octaper”: a change in policy had little chances in such a short while, and the headwinds from Washington certainly don’t help. In addition, the Fed needs to see more evidence of improvement. Not only is the evidence likely to be negative, but we might get a blackout in indicators due to the shutdown. Without the Non-Farm Payrolls report, it will be hard to make decisions.
  3. Confidence: the shutdown hurts confidence in the US. While it is still a safe haven in times of trouble, now the world is in a somewhat stronger position (Japan, the UK and the euro-zone have improved) and when the US is shooting itself in the foot, it is hard to justify investments there.
  4. Debt ceiling: as aforementioned, the US government shutdown in itself is not a huge catastrophe. But the debacle that led to it is telling towards the future, the very near future: the US is expected to reach its debt ceiling in two weeks time. If no deal is reached, a default on bond payments cannot be ruled out. And this historic precedent, if occurs is already a huge mess.

US dollar falling

  • EUR/USD is getting closer to 1.36, breaking the previous 1.3570 high. The next big target is 1.3710.
  • GBP/USD is already at 16250. 1.63 looms. The pound managed to extends its gains on month end flows, and it now continues higher.
  • USD/JPY resumes its falls after recovering and falls below 98. The Japanese government’s plan to curb the effect of the sales tax hike with stimulus counters some of the move.
  • AUD/USD climbs above 0.94. It also enjoyed another not-so-dovish RBA statement.
  • USD/CAD is below 1.03 once again. Canada’s GDP came out strong yesterday.

Further reading:  Video: What’s next for currencies? Is the US heading for a technical default?