The U.S. government shut down overnight, as ongoing disagreements in Congress, particularly over the extension of Affordable Care Act insurance subsidies and efforts to reverse cuts to Medicaid funding, created a divide too wide for both parties to cross. While Republicans had proposed a seven-week continuing resolution to maintain funding and sought to negotiate ACA subsidies separately, the Democrats were reticent to move forward without addressing the nearly $1 trillion in Medicaid funding cuts enacted earlier this year.
Breaking down the near-term impact, approximately 40% of federal employees have been furloughed while 60% continue essential work without pay, typically receiving retroactive compensation later. Essential functions like those performed by the FAA and TSA continue; Social Security and Medicare benefits are maintained; and veterans will continue to receive medical care and pensions. Civil services such as law enforcement, food inspection, presidential duties, and Congressional pay continue uninterrupted, and organizations like the Federal Reserve, CFPB, Amtrak, USPS, Fannie Mae, and Freddie Mac are not affected. The SEC’s EDGAR portal remains operational, but IPOs and filing reviews are likely to be delayed due to significant furloughs. National parks, Smithsonian museums, and monuments are now closed, the military and National Guard operations continue unpaid while most civilian defense staff are furloughed.
To put the event in context, this marks the eleventh shutdown since 1980; the duration of these events ranged from one day to the record-setting 35-day partial shutdown during President Donald Trump’s first term. Important to note that while disruptive, the economic effects of shutdowns tend to be temporary. For example, while the Congressional Budget Office estimated the lengthy 2018-2019 partial shutdown reduced real GDP in the first quarter of 2019 by $8 billion, or 0.2 percent, most of that output was later recovered in subsequent catchup growth. The permanent reduction in GDP was minimal at $3 billion or 0.02 percent.
Admittedly, the timing of this shutdown may prove more difficult for investors, given the threat to the availability of employment and inflation data. The Bureau of Labor Statistics is set to release non-farm payrolls data for the month of September on Friday as well as CPI data on October 15th. A delay in the release of already collected non-farm payrolls data coupled with inadequate staffing to collect CPI data could weigh on both the equity and bond markets, particularly given expectations that the Fed will continue to ease into the end of the year. Without this important government provided data, the Fed and investors will be forced to look more closely at secondary data sources; there may also be additional noise in the data which will need to be appropriately evaluated.
Even with this complication, and an admission that each of these shutdowns has been unique based on the economic environment in which they occurred, the data shows that brief shutdowns have not historically affected corporate earnings or long-term market trends. Federal agencies have developed procedures to maintain essential functions and investors have learned to look beyond headline risk. As such, it is not a surprise that coming into today’s shutdown, U.S. equities have continued to perform well, with the Dow cresting a record high to close the quarter and the S&P 500 adding to strong year-to-date gains.
While equity futures are down modestly this morning on the shutdown news, we would be hesitant to trim equity exposure with the Q3 earnings season set to kick off in earnest in two weeks – especially with estimates considered conservative. In addition, Treasury yields are not likely to move meaningfully, unless the threat of a more protracted shutdown rises, increasing volatility in the equity markets and dampening growth estimates for Q4 2025. Overall, we would not recommend repositioning based on economic growth concerns as a byproduct of the shutdown, and we believe that expectations for continued fiscal instability over the coming weeks are not likely to derail the existing momentum in risk assets.