By Wanfeng Zhou
NEW YORK (Reuters) - Stock markets worldwide lost ground on Thursday and the dollar hit an eight-month low as worries grew that the budget standoff in Washington would drag on and become intertwined with the looming and more complex fight over the need to raise the U.S. borrowing limit.
Major U.S. stock indexes fell about 1 percent as the partial U.S. government shutdown entered a third day and after President Barack Obama, in a speech, maintained his defiant tone by reiterating that he would not meet Republican demands to scroll back provisions of his healthcare reform in exchange for operating the government.
Wall Street briefly extended losses, and the dollar dropped against the euro and yen on reports that gunshots were fired at U.S. Capitol, but the moves were reversed after news that the shots were fired outside the Capitol. U.S. Capitol police said at about 3 p.m. (1900 GMT) that a lockdown of the U.S. Capitol had been lifted.
Analysts expect investor patience to run out if the shutdown lasts more than about a week as the debt ceiling deadline approaches. U.S. Treasury Secretary Jack Lew has said the United States will exhaust its $16.7 trillion borrowing authority no later than October 17.
Failure to raise the debt limit could damage not only the United States but the rest of the global economy, International Monetary Fund chief Christine Lagarde said. Concerns about a U.S. default have driven up the cost to insure Treasuries, while U.S. one-month Treasury bill rates hit their highest level since November.
"What's happened in Washington? Nothing. When people are uncertain about what's going to happen, they sell first and ask questions later," said Michael James, managing director of equity trading at Wedbush Securities in Los Angeles.
"I think the feeling on Tuesday was, 'OK, the government's shut down, but they're going to do something in a day or two.' Now we're in day three and people are getting both a little concerned and annoyed."
MSCI's world equity index, which tracks shares in 45 countries, fell 0.3 percent to 383.02 points. It has lost more than 2 percent since its recent high on September 19.
The Dow Jones industrial average dropped 99.13 points, or 0.66 percent, to 15,034.01. The Standard & Poor's 500 Index fell 11.76 points, or 0.69 percent, to 1,682.11. The Nasdaq Composite Index lost 35.70 points, or 0.94 percent, to 3,779.32.
Stocks and Treasury yields bounced off the day's lows after The New York Times reported that House of Representatives Speaker John Boehner said he was determined to prevent a government default.
A spokesman for Boehner, the top Republican, said he has always said the country will not default on its debt, but that there are not enough votes in the chamber to pass a debt limit hike without added provisions.
Market volatility could increase if the deadlock continues as concerns about the economic impact increase. Goldman Sachs estimated a short-term shutdown would slow U.S. economic growth by about 0.2 percentage point, while a weeks-long disruption could weigh more heavily - 0.4 percentage point - as furloughed workers scale back personal spending.
The dollar fell 0.2 percent against a basket of currencies, having touched an eight-month low of 79.627, on views that the shutdown diminishes the chances of the Federal Reserve will reduce its monetary stimulus this year.
The euro firmed 0.4 percent to $1.3624, after hitting its highest level in eight months, helped by solid euro zone data. Growth in services companies, comprising the vast bulk of the euro zone's private sector, increased in September at the fastest pace since June 2011 while retail sales rose much more than expected in August.
European shares dropped 0.4 percent to close at 1,242.18 points.
U.S. DEFAULT RISK
Treasury debt prices rose and yields eased as investors bought U.S. government debt, still seen as the most viable safe-haven investment. U.S. benchmark 10-year Treasury notes were up 3/32 in price with a yield 2.608 percent.
The cost to insure U.S. government debt, however, has soared in the credit default swaps market.
Investors would pay about 46,000 euros to insure 10 million euros worth of Treasuries for a year on Thursday, according to Markit. This was the highest premium on one-year U.S. sovereign debt since July 2011 during the first debt ceiling showdown between Obama and top Republican lawmakers.
Interest rates on Treasury bills that will come due between the debt ceiling deadline and the end of October also rose on default worries. The rate on the T-bill issue due on October 31 touched 0.17 percent, the highest level since November. This compared with the 0.03 percent on the T-bill due the following week.
U.S. data earlier showed the number of Americans filing new claims for jobless benefits edged up last week, while growth in the U.S. services sector cooled last month.
The Labor Department on Thursday said the government's employment report for September will not be released as scheduled on Friday due to the shutdown; a new release date had not yet been set.
Spot gold traded little changed $1,316 an ounce as investors booked profits after the previous session's gains. Gold rose 2.2 percent on Wednesday, posting the biggest daily gain in two weeks.
Brent crude gave up early gains sparked by strong data from China. Activity in China's services sector expanded at the fastest pace in six months in September as demand grew, cementing a modest pick-up in the world's second-largest economy.
Brent crude was down 19 cents to settle at $109.00 a barrel. U.S. oil fell 79 cents to settle at $103.31 a barrel.
(Additional reporting by Richard Leong and Ryan Vlastelica; editing by Nick Zieminski, G Crosse and Leslie Adler)
