Government Shutdowns

By Zach VeencampCommentary, General, Reviews

Pretext

The recent concern over the threat of another government shutdown related to the Border all resolution deadline this past Friday (Feb 15th) motivated me to look into the effects of past government shutdowns on the markets. As many are aware, the recent 2018-2019 governmental shutdown was the longest in history, spanning from December 22nd 2018 to January 25th 2019, running for 35 consecutive days. As pretext, this government shutdown resulted directly from Congress and Trump being unable to reach an agreement on an appropriations bill to fund the federal government for 2019. These funding bills are voted on annually to essentially set a budget for the federal government each year. If no agreement can be made, a ‘temporary budget’ can be passed while an annual resolution is worked on. Since 1976, we’ve seen 4 ‘real’ shutdowns when departments and government operations were affected for more than 1 day. The most recent shutdowns occurred first, under Bill Clinton & a Republican Congress and shut down the government twice, for a total of 26 days. Aside from the 2018-2019 shutdown, the most recent shutdown occurred in 2013 when the House and Senate could not reach an agreement. This resulted in a 16-day shutdown.

2018-2019 Shutdown

In the case of the most recent shutdown, the balance highlighted a breakdown of the economic impacts of the shutdown on various departments:

  1. Agriculture – 40 percent of 95,383 workers. Farmers can’t get loans processed. March food stamps could be cut.
  2. Commerce – 87 percent of 47,896 workers. Reports from the Bureau of Economic Analysis are delayed.
  3. Homeland Security – 13 percent of 232,860 workers. Companies can’t verify a worker’s immigration status.
  4. Housing and Urban Development – 95 percent of 7,497 workers. Rental assistance for the elderly and disabled is delayed.
  5. Interior – 78 percent of 68,469 workers. National Park staffing wasn’t sufficient to maintain and protect the parks, which remained opened. Vandalism destroyed natural resources that could take 300 years to replace. The department lost $400,000 a day in fees. The Environmental Protection Agency furloughed 95 percent of 13,872 workers.
  6. Justice – 17 percent of 114,154 workers. Federal civil cases and immigration court cases are delayed. Federal District Courts may stop hearing civil cases beginning January 25.
  7. State – 42 percent of U.S. workers and 26 percent of U.S. employees posted abroad.
  8. Treasury – 83 percent of 87,267 workers. Workers are being called back so refunds aren’t delayed.
  9. Transportation – 34 percent of 54,230 workers. Some security screeners have called in sick. This created delays in some airports.

On January 28th 2019, the Congressional Budget Office (CBO) reported that the shutdown had delayed $18 billion in federal spending and suspended some federal services. This delay in spending and suspension of federal services subsequently lowered the projected level of real GDP in the 1st quarter of 2019 by $8 billion the CBO estimated, though that equated to only ~0.2%. One of the most obvious implications of these government shutdowns is that the federal workers who are not paid in the interim are subsequently spending less. Additionally, it’s estimated that government spending itself is a notable part of overall gross domestic product (GDP), accounting for an estimated 18% of economic output.

Effect on Markets

In a 2017 article, Marketwatch highlighted this nifty breakdown of how the market has handled many of the past government shutdowns dating back to 1976:

As the graph shows, the average performance during this time is only -0.6%, less than 1% move downward. While the markets continue to be evermore complicated and intertwined to external influences, it can largely be concluded these markets are insignificantly affected by government shutdowns, historically speaking. If we included the 13.34% return the S&P 500 had throughout the most recent shutdown to the above numbers, that average would actually be a positive 0.1% return with 47.4% of the returns being positive during government shutdowns.

Sentiment

With the political influences we’ve seen play into the market over the past year, combined with the instability the market has illustrated over the past 6-months, I believe sentiment is one variable that is beneficial to not overlook. In a January 28th article, Factset looked into the corporate sentiment of the government shutdown’s effect on earnings. They dove into the 4th quarter earnings calls transcripts for 104 S&P 500 companies and noted that “34 (or 33%) cited the term ‘shutdown’ in their earnings call.” Additionally, “At the sector level, the Financials (11) and Industrials (11) sectors had the highest number of companies discussing ‘shutdown’ on Q4 earnings Calls. Combined, these two sectors accounted for nearly 2/3 of the total number.” The article concluded that out of the 34 companies that mentioned the term ‘shutdown’, 13 of those companies saw no impact from the government shutdown. On the flipside, 15 of the companies noted a direct or indirect negative impact due to the government shutdown. At first glance, it does not surprise me that the 2 sectors quickest to note the shutdown were Financials and Industrials. Financials is largely chalk full of analytics and so subsequently, it can be assumed the sector as a whole is likely to be the first to note macro-economic events in communication with the public. On the other hand, the U.S. government accounts for a notable amount of demand for the Industrials Sector, so it is not surprising on that face that they were the other sector first to note potential impacts of the government shutdown. However, it does seem as if many sectors and companies really see a government shutdown as a temporary event similar to a state of ‘limbo,’ seeing as once the government approves a funding bill, any back pay is taken care of and the demand largely sees a temporary boost to make up for the state of ‘limbo’ the government demand was in. Also, as the above chart illustrates, historically these government shutdowns have only been truly temporary events. Therefore, that historical relevance seemingly plays into the sentiment and expectations related to how many companies seem to think about these shutdowns as immaterial to overall earnings. On a last note, personally, I do think there is a signal of ‘instability’ (more or less) as these shutdowns are becoming more frequent than they previously were. With our national debt hitting jaw-dropping levels ($22Trillion or 104.1% of debt-to-GDP) relative to the historical standards (30.6% debt-to-GDP in 1981 & 65.3% in 1995), I’m under the assumption the appropriation bills & the discussion around the federal budget will continue to become a bigger discussion and subsequently be the center of increasing amounts of political disputes. One variable that definitely can play into spooking the market is uncertainty, whether it is political, economic, or global uncertainty.

Conclusion

Historical numbers demonstrate that for an individual to worry of a market crash due to a looming government shutdown would largely be an overreaction. However, the CBO & corporate sentiment hint at the fact that the context of which the shutdown is occurring and the longer-term effects of a shutdown are, at the very least, worth contemplating. As aforementioned, the growing national debt and debt-to-GDP levels are likely to continue taking center stage over the next 10-years, further being the playing into periods of political ‘instability’ and taking center-stage in political disputes. That instability, and the uncertainty that comes with it can certainly play into forecast discussions and ‘spooking’ the market. While it does not seem government shutdowns influence the market one way or another, the saying ‘The straw that broke the camels back’ is a saying for a reason.

Cheers,

ZSV