The US dollar started the week in the red against both sterling and the euro, with investors keeping close tabs on the federal government shutdown in America.

In European trade, sterling rose 0.35 per cent to just under $1.39 and the shared currency gained 0.22 per cent to $1.226. The rises on Monday left the pound up almost 3 per cent on the dollar this year, with the euro up 2.1 per cent.

Republicans and Democrats failed in frantic talks over the weekend to break an impasse on a stopgap bill needed to fund the government, meaning the shutdown dragged into its third day on Monday.

Typically government shutdowns have had a fairly limited impact on the economy. However, the inability of a Republican-controlled Congress and a president of the same party to pass the legislation has heightened risks of a logjam on raising the debt ceiling towards the end of February, said Viraj Patel, currencies strategist at ING.

A fight over raising the government’s borrowing limit would be “more economically damaging”, said Mr Patel. In the past, such episodes have sparked ructions in the financial markets since a failure to raise the debt ceiling would hamper America’s ability to make payments on its bonds, marking an unprecedented default.

“The political woes working against the US dollar have become too difficult to fight,” said Mr Patel.

Lee Hardman, currencies strategist at MUFG, said the shutdown supports the view that “higher political risk [is] priced into the dollar”. However, he said that “the US government shutdown over the weekend has had only a muted impact on financial markets with the US dollar holding close to recent lows.”

Further progress on political talks in Germany this weekend also provided a tailwind for the euro, according to strategists. The Social Democrats narrowly voted to begin formal coalition talks with Angela Merkel’s Christian Democrats, increasing the odds that Ms Merkel will be able to form a government after an inconclusive election in September.

“The draft grand coalition agreement included plans for closer European integration as a main priority which would be a favourable development for the euro in the medium-term,” noted Mr Hardman.

However, he cautioned that “the close vote highlights that the SPD remains deeply divided.”

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