The Stakes of Another Government Shutdown

0:00Michael Zezas:Welcome to Thoughts on the Market. I'm Michael Zezas, Deputy Head of Global Research for Morgan Stanley. Today, we'll discuss the possibility of a U.S. government shutdown later this week and what investors should and should not be worried about. It's Wednesday, January 28th at 10.30 a.m. in New York. In recent weeks, investors have had to consider all manner of policy catalysts for the markets, including the impact to oil supply in emerging markets from military action in Venezuela, potential military action in Iran, and risks of fracturing of the U.S.-Europe relationship over Greenland. By comparison, a potential U.S.

0:38Michael Zezas:government shutdown may seem rather quaint. But a good investor aggressively manages all risks, so let's break this down. Amidst funding negotiations in the Senate, Democrats are pressing for tighter rules and more oversight on how immigration enforcement is carried out given recent events. Republicans have signaled some openness to negotiations, but the calendar is really a constraint. With the House out of session until early next week, any Senate changes this week could lead to a lapse in funding. So a brief shutdown this weekend, followed by a short continuing resolution once the House returns, is a very plausible path.

1:15Michael Zezas:Not because either side wants a shutdown, but because they haven't fully coalesced around the strategy and time is short. Of course, once a shutdown happens, there's a risk it could drag on, but in general, our base case is that the economic impact would be manageable. Historically, shutdowns create meaningful hardship for affected workers and contractors, but the aggregate macro effects tend to be modest and reversible. Most spending is eventually made up and disruptions to growth typically unwind quickly once funding it's restored. A useful rule of thumb is that a full shutdown trims roughly one-tenth of a percentage point from the annualized quarterly GDP for each week it lasts.

1:55Michael Zezas:With several appropriations bills already passed, what we'd face now is a partial shutdown, meaning that figure would be even smaller. For markets, that means the reaction should also be modest. Shutdowns tend not to reprice the fundamental path of earnings, inflation, or the Fed, which are still dominant drivers of asset performance. So the market's inclination will likely be to look past the noise and focus on more substantive catalysts ahead. Finally, it's worth unpacking the politics here because they're relevant but not in the way investors might think. The shutdown risk is emerging from actions that have contributed to sagging approval ratings for the president and Republicans, leading many investors to ask us what this means for midterm elections and resulting public policy choices.

2:42Michael Zezas:And taken together, one could read these dynamics as an early sign that Republicans may face a difficult midterm environment. We think it's too early to draw any confident conclusions about this, but even if we could, we're not sure it matters. First, many of the most market-relevant policies on trade, regulation, industrial strategy, reshoring, and increasingly AI are being executed through executive authority, not congressional action. That means their trajectory is unlikely to be altered by near-term political turbulence. Second, the president would almost certainly veto any effort to roll back last year's tax bill, which created a suite of incentives aimed at corporate capex, a key driver of the 2026 outlook.

3:25Michael Zezas:Putting it all together, the bottom line is this. A short, calendar-driven shutdown is a risk worth monitoring, but not one to overreact to. thanks for listening if you enjoy thoughts on the market please leave us a review and tell your friends about the podcast we want everyone to listen the preceding content is informational only and based on information available when created it is not an offer or solicitation nor is it tax or legal advice it does not consider your financial circumstances and objectives and may not be suitable for you