European markets remain calm in wake of US gridlock

As the US approaches the pivotal date of October 17 when the debt ceiling needs to be passed, pressure is mounting on politicians to reach an agreement.

Ishaq Siddiqi, market strategist at ETX capital writes:

At the moment, financial markets are attempting to work out what sort of agreement this could be? We know a fresh budget must be formulated in order to raise the debt ceiling – which means for now; it is unlikely the US economy will default on debt. That means, lawmakers will have to find some common ground but will it be a viable and credible solution or patch-work bandages to kick the can further down the road?

Probably the latter. US politicians have a knack for that - It’s become their forte. And, you can’t really blame them when their country sits on a jaw dropping debt pile which is expected to be around $21.291 trillion in 2014. So, the dithering, the delays, the polarisation on a number of issues is to be expected which means the propensity to kick the can down the road is high as it’s well known that not all issues can be agreed upon.

If Congress fails to reach an agreement it will certainly have a negative impact on economic growth. There have been a range of estimates for the negative impact on growth from 0.2 per cent to 0.9 per cent of GDP. However despite the political gridlock in Washington, European markets have been reacted in measured fashion and easy credit from the Federal Reserve is keeping investor confidence relatively high.

But, as long as it’s a pinch and not a punch, investors are not fretting and you can see that from price-action this morning across European markets who feel rather sanguine about this shutdown so far. See, even though US economic growth may get a knocking on the back of this, for markets addicted to the Federal Reserve’s liquidity programme, quantitative easing, this shutdown has just bought risk-junkie investors some precious time to enjoy the current mammoth of easy Fed cash still floating around in the global money markets. The Fed intended to taper QE, announcing their exit strategy during the summer of 2013, gearing the market up for a withdrawal only to not executing it last month when investors were almost convinced tapering was on the cards.

Due to the shut down of government agencies Fed chairman Ben Bernanke will lacking a host of important economic data which will likely lead him to further delay tapering. The political battles currently gripping Washington will not only have an important affect on fiscal policy but also on monetary policy over the coming months.