Some expect the political game of chicken to keep the Fed on hold in September

The sell-side research community remains divided over the timing of the Fed's first securities purchase program reductions. While economists almost universally believe tapering will begin this year, the split is mostly between the September and the December crowd.

Source: Scotiabank

A few economists believe that the US economy is too soft to begin reductions in September. But given the lack of progress over the past year, would waiting another three months make much of a difference? In fact prolonging the uncertainty could do more damage.

The main reason a number of economists think the Fed will be on hold in September is the mess surrounding the federal budget fight. It seems that everything is on the table at this stage and the fight could indeed become ugly.

Politico: - Republicans will also aim to include other items to please the base, including the building of the Keystone XL pipeline, various energy policies and revising parts of Obamacare, including the individual mandate.

But here’s where the fight begins: A senior Obama administration official said there is nothing that will compel the White House to negotiate over the debt ceiling — including the sequester. The White House doesn’t believe the Republicans will push the nation into default if they don’t get their way.

We may not get to the point of "default", but there is no question we are about to see another political "game of chicken" as both sides dig in. What is particularly troubling is that the public and to some extent market participants don't seem to care. The Google search frequency for the phrase "federal budget" is at the lowest level in a decade.

Source: Google Trends

With everyone fully expecting a last minute resolution in spite of the saber-rattling, a government shutdown for example could send a shock-wave through the economy and the markets. As discussed before (see post) "tail risks" encompass the unexpected. And a possibility of such a scenario could be the only thing holding back the Fed in September.

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