The US government avoided a shutdown for the time being, but faced a political battle within the Republican Party that led to the ousting of Speaker Kevin McCarthy. Ongoing budget disagreements and leadership uncertainty raise the risk of a government shutdown, adverse economic effects and a potential questioning of US financial support for Ukraine.
On the night of Sunday 1 October 2023, a last-minute shutdown of the US government was averted, as a deal was struck to delay the shutdown for 45 days, until 17 November 2023. What was once conceived as an extreme measure is increasingly turning into a political power play over budget spending in Washington. As the government's fiscal year always ends on 30 September, the next budget was at stake, starting on 1 October 2023 and ending on 30 September 2024, with a total of twelve budget bills to be passed.
Over the past 40 years, the US has experienced ten partial or complete government shutdowns with an average duration of 14 days. While the power play described is usually played out between Democrats and Republicans, this time it is dominated by far-right Republicans and the rest of the Republican Party. The moderate Republican Speaker of the US House of Representatives, Kevin McCarthy, the third most powerful politician in the US, facilitated the delay achieved and was removed from office by the far-right Republicans in return.
After US financial commitments to the Ukraine were one of the main points of contention between the House of Representatives and the Senate, the current compromise is based on a temporary freeze on further planned US financial assistance to Ukraine of USD 24 billion. This, so to day as the price of postponing a complete government shutdown, which indirectly comes at the expense of Ukraine's ability to defend itself.
There is currently no clear successor to the Speaker of the House of Representatives, which does not seem conducive to political consensus building. All twelve appropriations bills for the state budget are currently in disagreement. In particular, the House and Senate differ on where and by how much to cut the US government's out-of-control spending. In terms of amount, differences of at least USD 120 billion would have to be bridged, presumably without affecting the defence budget. However, bridging these differences by 17 November may prove more difficult than possibly achieving further temporary postponements. In any case, if a compromise cannot be reached, a possible government shutdown in the US would come at the worst possible time, as it would undermine the partial successes achieved so far on the road to a "soft landing" of the US economy. In a quarter with expected zero growth, there is a risk of a relapse into contraction.
While in a "shutdown" the national debt continues to be serviced and essential government functions continue to be carried out (e.g., air traffic controllers) - albeit without pay - many government employees stay home and temporarily go without pay. A government shutdown thus has a direct impact on economic growth through the loss of production by government employees. It is estimated that such a shutdown reduces annualised GDP growth by -0.2 percentage points per week - although about half of the economic impact can be reversed once the shutdown is lifted. Interestingly, the release of relevant macroeconomic data can also be delayed in such a situation. This would be particularly problematic for the highly interest-rate-sensitive bond and equity markets in the current situation where the US central bank is operating on a data-driven basis. As a result of this "blind flight", it is likely that the Fed would hold off on further rate hikes in the event of a government shutdown.
Postponing the difficult task of finding a compromise in a dysfunctional system by 45 days offers little reason to relax. The risk of a government shutdown in the US has been postponed from October to November and thus remains. And even a successful consensus on the 2024 federal budget in the fourth quarter of 2023 would not conclusively resolve the longer-term question of the sustainability of the structurally high US budget deficits and public debt, which has risen to around 122% of GDP. Overall, uncertainty remains significantly elevated for the time being.