THE BLOG

All Eyes on the US, as Key Economic Battles Loom

24/09/2013 10:24 BST | Updated 23/11/2013 10:12 GMT

Last week was dominated by news from the US Federal Reserve and their surprise decision to hold fire on a reduction on the stimulus that is currently being injected into the US economy. This unexpected decision on 'tapering' sent most of the economics world scrabbling to reassess their projections of just when the economy will be strong enough for the Fed to change its course.

They had emphasised in June, when tapering of asset purchases was first talked about, that any decision would be deeply 'data dependent' - if the news from the Eurozone economy was strong enough, then the stimulus could and should cut the stabilisers.

The fact is that inflation is still well below target, unemployment remains sub-par and growth is below its potential. Improvements have been made but the rates of growth in both output and employment have slowed over the summer months consistently, and, alongside the decision by the Federal Reserve to also revise their growth expectations for 2014 to 2.9%-3.1% from 3.0%-3.5% in June without a real improvement in the US jobs market, the data dependency was there for all to see.

Focus will not shift away from Washington in the coming days and weeks. Having emphasised that growth in the past has not been up to scratch, the Fed looked forward at what could possibly damage the US economy in the future. This can be summarised in one word: Congress.

This year will see yet another battle in Congress over the debt ceiling, much like the one of August 2011. In addition, by some quirk of spending and scheduling, we are due to have a budget debate as well - with a decision needed by midnight next Monday to prevent a shut-down of the US government. Without a budget or a continuing resolution the US government will be effectively closed for business.

Republicans passed a bill on Friday linking approval of that spending limit to a de-funding of Obama's treasured healthcare law. This wouldn't get anywhere near the President's desk; the Senate remains in Democratic control and would rather vote for guns in schools than taking money out a centralised healthcare plan.

Shutting down the US government sounds disastrous, and left for too long would certainly drag down output, but the largest falls are likely to be found in Congressional approval ratings; politicians aren't liked at the best of times, especially when they're viewed as work-shy. Previous shutdowns in 1995 and 1996 only saw around 9% of government employees not at work.

The key will be whether the distrust and backbiting of a budget debate is transferred to the debt ceiling battle in a fortnight's time. Messing with the full faith and credit of the United States is one thing that could change the circumstances of this recent dollar movement; investors, somewhat tautologically, use the USD as a haven from US issues.

This is not an endorsement of these tactics of course, but will certainly please USD sellers who have seen the greenback slip by 3% in the past three weeks. The markets were scared of what the Fed might do and rallied on inaction. Congressional malaise may well be a more difficult pill to swallow.