Last ditch talks between lawmakers might avoid a partial government shutdown that could begin as soon as Wednesday morning. However, prediction markets currently view a partial shutdown as more likely than not. Should a shutdown occur, the main impact for financial markets will depend on how long it lasts.
Healthcare and Defense Sectors Likely To See Greater Impact
In the event a partial government shutdown occurs, then defense and healthcare companies could see disproportionate impact. That’s because contracts with the government could be impacted, causing delays if the shutdown lengthens. Approvals that the the healthcare sector can require from government, could be delayed potentially impacting new drug development, for example.
However, historically most government shutdowns have lasted only a few days so the impact of delays has been relatively minimal. That said, the longest partial government shutdown was under President Trump starting in December 2018 and lasting 35 days.
Possible Drag On Economic Growth
Beyond, specific sector impacts, a partial government shutdown can have a dampening effect on economic growth. That’s because federal government workers are generally not paid while a shutdown lasts. They are legally guaranteed backpay once the shutdown ends, but the delay to a paycheck can have real economic impact for many households. Federal government contractors are less secure, with backpay not guaranteed. The elevated uncertainty and reduced spending from impacted households that government shutdown can potentially produce has the potential to slow economic growth. However, for now, estimates of economic growth are relative robust. For example the Atlanta Fed’s GDPNow model estimates third quarter economic growth at an over 3% annualized rate and the New York Fed’s Staff’s Nowcast estimates 2.5%.
Limited Impact on Essential Government Functions
It is also important to note that many essential functions of government are not impacted by a government shutdown. For example, Medicare and Social Security will continue to operate as will the U.S. Postal Service. Partial government shutdowns only impact those areas of government deemed non-essential. For example, this may include the national parks and the activities of NASA. What is deemed essential and non-essential for any shutdown is determined by the Office of Management and Budget.
Additional Government Layoffs Possible
Should a partial government shutdown occur, the Office of Management and Budget may look to implement additional layoffs. The OMB wrote in a memo regarding shutdown planning that. “Agencies are directed to use this opportunity to consider Reduction in Force (RIF) notices for all employees in programs, projects, or activities (PPAs) that satisfy all three of the following conditions: (1) discretionary funding lapses on October 1, 2025; (2) another source of funding, such as H.R. 1 (Public Law 119-21) is not currently available; and (3) the PPA is not consistent with the President’s priorities.”
What To Expect
A partial government shutdown has not occurred yet, and may not occur depending on the outcome of final negotiations. Prediction markets view a shutdown as likely. If a partial shutdown does occur its duration will matter for the economy.
Historically, many government shutdowns are resolved within hours, if not days and the economic impact of such brief shutdowns can be relatively limited notwithstanding some elevated uncertainty. However, a drawn out partial government shutdown does have the potential for real economic impact, both for sectors of the economy with close government relationships and in potential reduction in economic growth due to the impact on federal workers.