Asian shares sagged and the dollar languished close to an 8-month low on Wednesday as the U.S. budget deadlock dragged on, further chipping away at investors' confidence that a deal will be reached before a mid-October deadline to avoid an historic debt default.
The dour mood is seen extending to Europe, where Britain's FTSE is seen slipping 0.3% from Tuesday's three-month low. Financial bookmakers also see Germany's DAX shedding 0.3% and French shares 0.2%.
While markets expect U.S. politicians will eventually strike a deal, they are getting nervous as the deadline nears without any tangible progress between Democrats and Republicans.
The MSCI's broadest index of Asia-Pacific shares outside Japan dipped 0.3%.
Japanese shares bucked the trend, stepping back from five-week lows, though the rebound came only after a steep fall of nearly three percent so far this month, a bigger drop than the S&P 500.
President Barack Obama said he would be willing to negotiate only after Republicans agree to re-open the government and raise the debt limit with no conditions. Republican House Speaker John Boehner said he was disappointed by the president's approach.
Wall Street shares dropped to one-month low on Tuesday, with S&P 500 index falling 1.2%, risking a break below a key trendline support from 2012.
The CBOE Volatility Index, a measure of investor anxiety, rose nearly 5% to close at its highest since June 20.
The budget impasse overshadowed news Obama will nominate Federal Reserve Vice Chairwoman Janet Yellen as the next head of the U.S. central bank.
U.S. stock futures gained about 0.3% as Yellen is seen as a proponent of dovish policy.
"I wouldn't expect this rally in risk to be too sustainable given much bigger issues at play including the U.S. government shutdown. The October 17 initial deadline looms large as well," said Sue Trinh, senior currency strategist at RBC in Hong Kong.
U.S. Treasury Secretary Jack Lew has said the Treasury will be low on funds by that date, but some market players suspect it could manage for several days beyond that, which could prolong the deadlock further.
The government shutdown is already disrupting U.S. data flows, helping to put talk of tapering in the Fed's stimulus completely off the table for now.
After September's surprise decision to delay tapering, many economists now think the Fed will not move until Bernanke has left office.
Some investors are starting to take precautions to protect against the possibility of a U.S. default by shunning U.S. debt maturing in late October and early November.
The yield on four-week U.S. government bills hit a 5-year high above 0.3% of on Tuesday.
Against a basket of major currencies, the dollar was at 80.04, close to an eight-month low hit last week. .
Although the fiscal standoff has hurt sentiment on the dollar, ironically, the greenback drew some support from it of late as well, as foreign banks bought the U.S. currency just in case a deal is not reached and liquidity dries up.
The dollar rose to 97.21 yen after having hit a two-month low of 96.55 yen on Tuesday. The euro traded at $1.3568, below an eight-month peak of $1.36465 hit last week.
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