Markets Focus on Growth Rather than the Shutdown

A look at stock markets provides no inkling that the US federal government shut down last week:  the S&P 500™ notched yet another all-time high as investors continued to bet on the future prosperity of the US. Plenty of households may be justifiably worried about the consequences of an extended government shutdown, but markets are not. At least, not yet.

Partly, this reflects experience. Investors have seen this show before, with shutdowns becoming, if not common, almost inevitable as political parties have become less willing or able to pass bipartisan budgets. The previous shutdown, in 2018, lasted 35 days and was estimated by the Congressional Budget Office (CBO) to cost the US economy $11 billion as federal workers cut spending following lost paychecks. This was certainly difficult for those most impacted, but $11 billion was a relatively small impact for a US economy of $21 trillion in gross domestic product that year.

So if this is wrapped up within a few weeks or so, the broader disruption should be limited, and that appears to be what the market is assuming. A far more extended shutdown, however, could become costly for the economy if households, reliant on direct or contracted government jobs and financial transfers, suddenly fail to get paid for a lengthier period of time. Already stretched budgets will tighten further, potentially triggering a drop in spending that could reverberate across the economy. Suspensions in operations at regulatory and other agencies (such as the FDA) could impact companies’ abilities to bring products to market and so delay expansion plans (and so demand for workers).  The economy could be in for both a demand shock (lower spending) and a supply shock (lower production). It remains too soon to estimate the likely duration or cost of this shutdown, although both sides appear entrenched in their positions.

Fortunately, the US enters this situation with an economy in relatively good shape:  real economic growth looks solid, despite recent policy uncertainty, and the job market, if not robust, is at least stable.  The Atlanta Fed’s NowCast points to 3.8% real GDP growth in the third quarter. And while data from federal sources, such as the Bureau of Labor Statistics and the Bureau of Economic Analysis, will be unavailable during the shutdown, private metrics can help fill some of the gaps. The Federal Reserve, private sector economists, and investors will all continue to keep tabs on the economy’s prospects by analyzing consumer spending data from credit card transactions; weekly hotel stays and pricing; restaurant, Broadway show, and movie theater visits; airport travelers’ comings and goings; retail sales trends; private hiring and firing trackers; and many other sources.

But investors can still take advantage of an area of growth—that related to AI—that is likely to persist even if the shutdown turns lengthy.  Investors woke up to the potential of Artificial Intelligence (AI) investments in the US in late 2022, and have seen data center investments accelerate since then. Announcements from applications providers indicate that several more years of investments will be needed to satisfy the anticipated needs from this emergent technology.  The rest of the world remains in even earlier stages of installing this hardware and the data networks needed to connect it to firms and households.   So even as the government seizes up, the artificial intelligence engine that has powered stocks higher over the last two-plus years continues to chug away.

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