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What will be the Forex response to a United States Government shutdown? The US government has not passed a budget for five years. Rather legislators have repeatedly played chicken with the US economy as gridlock continually revisits the halls of congress. A group of Republicans in the House of Representatives allowed a budget bill to pass but only when the new health care bill, so called Obama care, was not funded. Americans are bracing for closure of national parks, a possible delay in social security and disability checks, and no processing of new paperwork for passports or anything for that matter. If the last five years are any guide the issue will be resolved at the last minute or before too many voters get too angry. But the Forex response to a United States government shutdown could affect the dollar forever. For example, when foreigners buy US treasury bonds they expect those bonds to be backed by the full faith and trust in the American government. What are the responses to bond buying and the Forex response to a United States government shutdown when Uncle Sam no longer pays his bills?
Bonds, Yields, and the USD
We noted recently that higher bond yields drive the dollar higher. Most recently this has had to do with the Federal Reserve quantitative easing stimulus program and its expected cessation. If the prospect of a slight change in yield causes a slight change in the dollar versus other currencies, what will happen when the international bond market loses all faith in US treasuries? Chaos may be too mild a term for a possible Forex response to a United States government shutdown. Eighty-five percent of all Forex trades include the US dollar. Most minor currencies do not trade one against the other. Rather they trade against the US dollar. If traders lose faith in the US dollar will they use the Euro, Yen, or another major currency?
The reason that Forex markets exist is to facilitate foreign trade. When an American company sells machinery to a company in the Europe it expects to be paid in US dollars. However, if the dollar is unstable they may rewrite the contract to be paid in Euros. How will those doing business internationally deal with a possible Forex response to a United States government shutdown?
What Are Your Options?
The Forex response to a United States government shutdown could be dramatic with the dollar losing significant strength or the market could simply assume that once grandstanding on Capitol Hill is over that things will revert to normal. Trading currency options may be a good approach to this sort of uncertainty. The advantages of buying calls or puts on the dollar are that losses are limited to the price paid for the contract, the buyer can exercise the contract any time within the contract period should price changes warrant, and he can simply sell his contract for a profit and never really engage in online currency trading.