Policy: Economy

Broader economic effects of a shutdown would likely be limited

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PennAve,Joseph Lawler,Economy,Government Shutdown

Washington, D.C., and Wall Street are clearly worried about a government shutdown.

Stocks fell Monday as Republicans and Democrats remained far apart on negotiations to fund the government and keep it open past midnight. The S&P 500 and Dow Jones Industrial Average fell for the third day in a row as the fiscal year drew to a close.

In an address from the White House, President Obama warned that "shutdown will have a very real impact, on very real people, right away."

But if the last government shutdown is an indication, the impact would likely be felt most acutely by federal workers on furlough and in the Washington, D.C., area. The effects for the broader U.S. economy — for what politicians call Main Street — would likely be small.

"If a shutdown did occur, it would probably be brief and the effects would be modest," Goldman Sachs economist Alec Phillips wrote in a research note previewing the shutdown last week.

Moody's Analytics chief economist Mark Zandi testified before the Joint Economic Committee that a shutdown would harm the economy, a projection that received widespread attention. Zandi said that a lapse in discretionary spending of three or four days would shave 0.2 percent off annualized gross domestic product (GDP) growth in the fourth quarter, and that a longer shutdown of three or four weeks could cut growth by 1.4 percent.

The 1995-96 shutdowns, however, the longest on record, coincided with relatively strong growth, at least apart from the government sector.

In November 1995 and again in the following December and January, federal employees were furloughed and government agencies were shut for 26 days as President Bill Clinton and House Republicans led by Speaker Newt Gingrich clashed over budget disagreements.

Economic growth in the fourth quarter of 1995 and the first quarter of 1996 were nevertheless strong relative to the preceding months. The following chart shows GDP growth, corrected for inflation:



The private sector, however, grew strongly during that period. Government spending fell sharply during the shutdown, but other sectors grew even faster. The next chart shows real private-sector GDP growth, meaning overall growth minus government spending:

As First Trust Advisors economist Robert Stein noted on Twitter, the shutdown was immediately followed by the Blizzard of 1996 -- a severe storm that disrupted commerce along the East Coast. The private economy grew despite the inclement weather and the government shutdown.

Last week, Macroeconomic Advisers estimated that all of the loss to GDP growth that would follow a shutdown would be in the government sector, and predicted that the impact "of a brief shutdown in the federal government in early October would be modest."

A longer shutdown of longer than a few weeks, however, would see unfulfilled responsibilities piling up at federal agencies. In that scenario, according to the consulting firm Macroeconomic Advisers, a shutdown "would cause larger, escalating disruptions" including spillovers to the private sector.

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