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U.S. President Barack Obama and Speaker of the House John Boehner. (KEVIN LAMARQUE/REUTERS)
U.S. President Barack Obama and Speaker of the House John Boehner. (KEVIN LAMARQUE/REUTERS)

Business Briefing

Why the consequences of a U.S. default would be ‘Black Swan’ event Add to ...

These are stories Report on Business is following Tuesday, Oct. 8, 2013.

Follow Michael Babad and The Globe's Business Briefing on Twitter.

U.S. ‘rigmarole’ won’t go away
The Washington debt showdown is pressuring global markets again today, a situation that promises to get worse.

“Equity markets are becoming increasingly nervous as relations between the Democrats and Republicans have yet to thaw, while the U.S. shutdown has left hundreds of thousands of state employees out of work without back pay,” said market analyst David Madden of IG in London.

“The current stalemate largely boils down to the ‘Obamacare’ issue, but could slip over to the more pressing debt ceiling problem soon, and as the clock runs down to the 17 October deadline, traders fears are likely to increase.”

Oct. 17 is a deadline of sorts set by the Treasury Department, the day on which it says the government will be tapped out if the debt ceiling isn’t raised.

That has sparked fears among investors of another credit downgrade and, in an extreme scenario, a default, though there are tentative signs of progress in the stalemate.

“In the past 24 hours, there has been only minor progress toward averting a possible economic downturn, with nine days before the government runs out of borrowing authority to pay its bills,” warned senior economist Sal Guatieri of BMO Nesbitt Burns.

Senior market analyst Michael Hewson of CMC Markets in London said there’s still an “underlying conviction” that the two sides will ultimately strike a deal.

“While this might be welcome in the short term it would only serve to shift the problem slightly further out into the future,” Mr. Hewson said today.

“It certainly doesn’t resolve it and markets would simply have to go through this entire rigmarole all over again, further down the line,” he said in a market commentary.

“Given the deeply entrenched positions of both parties there remains the distinct possibility that any deal could well get done after the 17 October deadline, which is likely to increase market uncertainty even further, and likely to put the U.S.’s triple-A rating at risk with both Fitch and Moody’s.”

Standard & Poor’s has already stripped Washington of that coveted rating.

The Oct. 17 debt ceiling deadline threatens "unintended consequences should that be breached," said chief economist David Rosenberg of Gluskin Sheff + Associates.

"The costs of a shutdown can be calculated with a certain degree of precision," Mr. Rosenberg said today.

"The uncertainty associated with a technical debt default for the world's reserve currency carries costs that are potentially extreme and inherently unknowable and as such can be effectively classified as a 'Black Swan' event," he said in his report, referring to Nassim Nicholas Taleb's theory.

The consequences are, of course, unknown, Mr. Rosenberg added in an interview, because there has never been a default related to the world’s reserve currency.

Observers say there won’t be a default, only that the concerns have surfaced this week as the partial shutdown of the U.S. government continued.

“But at least investors can begin to prepare for the even remote odds of such an event taking place,” Mr. Rosenberg said.

He cited the fact that the S&P 500 closed yesterday just 11 points below its May 21 intra-day high of 1,678.

‘Five months of nothing,” he said.

“Nada. Investors are now busy buying insurance against future losses, with the VIX index jumping 16 per cent in yesterday’s session to 19.4, a level last tested nine months ago (and yet still half where it was under similar circumstances nearly two years ago.”

IMF trims Canada's outlook
Canada should withstand a sharp drop in emerging-market growth, although the country’s growth will remain stuck at a low level this year and next, the International Monetary Fund said today in a revised global economic outlook.

The most dramatic change in the IMF’s regularly updated World Economic Outlook is its forecast for the fast-growing developing countries that have been responsible for so much of the globe’s economic growth in recent years, The Globe and Mail's Kevin Carmichael reports.

So far, the IMF says the U.S. budget impasse is having little impact on the global economy, but that would change if the country fails to raise its debt ceiling.

The IMF predicts Canada’s gross domestic product will grow 1.6 per cent this year and 2.2 per next year. Both estimates are 0.1 percentage point lower than the IMF’s last outlook in July.

Frustration mounts
Frustration and angst are mounting by the day as the U.S. stalemate shows no sign of ending.

So is the reputation of the United States, highlighted by comments from analysts and warnings from the likes of China and Japan.

Some of those comments suggest the Democrats and Republicans are acting like children (which may well be unfair to children), but with so much at stake that the warnings are becoming apocalyptic.

With each passing day, the U.S. economy suffers by an estimated $300-million in lost output, and hundreds of thousands of workers aren’t being paid.

Not to mention the impact on financial markets.

Next up is the Oct. 17 deadline.

Amid the blood feuds in the headlines, Miley Cyrus may be under fire for licking a sledgehammer, but House Republican Speaker John Boehner and President Barack Obama are being criticized for swinging theirs.

Here are just some of the comments of late:

“Having been critical for so long of European politician’s response to the crisis in Europe over the years, it is now the turn of the U.S. to be at the beck and call of dysfunctional politics and politicians. I wonder if any of these Democrat and Republican politicians currently bickering amongst themselves, with the fate of the world economy in their hands, can see the irony in how the worm has turned, and how their behaviour damages the credibility of the U.S. in the eyes of the rest of the world.” Michael Hewson, senior analyst, CMC Markets

“After all, the antics in Washington lend themselves so very well to an elaborate game of chicken. Except in this case, it’s two nuclear submarines hurtling at each other, where we’re not quite sure who’s in control of one of the subs. That may be part of the plan, since one winning strategy in chicken is to convince the other side that you truly are crazy - and in this case, at least one side seems to be very effective at conveying that impression.” Douglas Porter, chief economist, BMO Nesbitt Burns

“The U.S. is also courting another downgrade on what amounts to a political process that is in a state of disrepair. At issue is the legitimate concern over the previously unquestioned assumption that the U.S. government will honour its debt payments at all costs and this strikes to the very heart of the world’s financial system in ways that make the 2008 crisis pale by comparison should things really skid off the rails. Our base case scenario remains that a debt ceiling agreement will materialize and default will be averted, but it’s clear that the shutdown will linger for a while yet and perhaps to the eve of when the ceiling becomes binding.” Derek Holt, Dov Zigler, Bank of Nova Scotia

“I have no vote and hope I am non-partisan in this debate but I think that this is a row about principles as much as about power, which argues for a drawn-out impasse, though the odds still favour last-minute resolution. A good question (from Joe Weisenthal) was what the Republicans would have used to justify the stalemate if Obamacare wasn't there to argue over. And while I am sure the GOP could have found a reason for disruptive politics, it also seems clear that Obamacare is too important to the president's 'legacy' for him to compromise on that, while the right wing of the GOP is opposed on principle as much as anything else. But it's also clear that the Republicans are 'losing' the public relations war. I don't think that merely reflects my Twitter stream or choice of on-line reading. The big winner of this mess will be Hilary Clinton.” Kit Juckes, chief of foreign exchange, Société Générale

“The American public’s patience with their politicians is beginning to wear pretty thin, with the constant one-upmanship and political point scoring failing to tackle the issues in hand. At the beginning of the week the perception was that they would eventually sort it out and put the greater good of the nation first, but we must remind ourselves that these are politicians!” Alastair McCaig, market analyst, IG

Icahn turns up the heat
Shares of Talisman Energy Inc. dipped today, having been up after Carl Icahn’s announcement late yesterday that he now owns almost 6 per cent of the Canadian company and will probably push for change.

As The Globe and Mail’s Jeffrey Jones reports, Mr. Icahn, the famed activist investor, disclosed in a tweet after markets closed that he now has some 61 million shares of Talisman.

He may, he added, enter into talks with Talisman management about “strategic alternatives” and seats on the board.

Which means he will.

Housing starts rise
Construction starts in Canada climbed in September, though remain close to their recent range.

Housing starts rose last month to an annual pace of 193,637 from the August level of 183,964, Canada Mortgage and Housing Corp. said today.

That was led by construction of multiple units such as condos and apartments, the agency said.

“The trend in total housing starts edged up slightly in September, while remaining close to the range of roughly 182,000 to 188,000 units that was observed between March and August of 2013,” said CMHC’s deputy chief economist, Mathieu Laberge.

“This recent moderate gain is consistent with sales of existing homes, which have trended higher since February 2013,” he added.

“The trend in the new home market typically lags the trend in the existing home market.”

In Toronto, the focus of angst over the condo market, housing starts sank to an annual rate of 25,055 from 40,374 in August, largely because of “a moderation in condominium apartment and row house starts.”

Trade deficit widens
Imports to Canada outpaced exports in August, widening the country’s trade deficit to $1.3-billion from July’s $1.2-billion.

Imports rose 2.1 per cent, Statistics Canada said today, eclipsing the 1.8-per-cent gain in exports.

"Ultimately, we maintain our view that the shift in Canada's growth picture towards exports is occurring, but a weaker-than-expected U.S. economy is largely weighing on the speed of that transition," said economist Francis Fong of Toronto-Dominion Bank.

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