This article is taken from the November 2023 issue of The Critic. To get the full magazine why not subscribe? Right now we’re offering five issues for just £10.

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Larry Summers, president emeritus of Harvard University and one of the world’s most prominent economists, is no stranger to controversy. But — in terms of provocation — three sentences in a speech last month to the Washington-based Peterson Institute must be described as egregious. 

To quote, “I would suggest that substantial and accumulating deficits and debts are a substantial threat to national security and national power … Budget deficits a decade out comfortably in double digits as a share of gdp now seem a reasonable projection … I think it is reasonable to ask the question: ‘How long can or will the world’s greatest debtor be able to maintain its position as the world’s greatest power?’”

All countries have avid watchers of the American economic and political scene, and it may seem odd that alarming developments in its public finances have had little comment in Britain and elsewhere. Attention has been so concentrated on the run-up to next year’s presidential election that the debtor status of the world’s top nation has been neglected. 

The situation may be about to change, with potentially major consequences for global financial markets and international relations.

The main facts are hardly a secret. The International Monetary Fund publishes regular data on trends in budget balances and public debt in its member states, and the numbers can be easily accessed from its website. 

Covid-19 was a fiscal disaster for most nations: in 2019, the United States’ gross government debt was 108.7 per cent of gross domestic product. The number soared to over 130 per cent of GDP in 2020, as Covid and the policy response to it took the deficit temporarily to almost $3,000 billion or 14 per cent of GDP, and GDP was reduced by lockdowns. 

As life returned to normal last year, the deficit came down. But the hit from the pandemic was not fully reversed, with the gross-debt-to-GDP ratio at 121.7 per cent. 

More worrying still, the USA has become an outlier in international comparisons, with not enough action being taken to reverse an underlying upward drift in deficits and debt. 

According to the IMF, the overall government deficit, the sum of the Federal deficit and red ink at the state level, was 5.5 per cent of GDP in 2022, but the corresponding figures for 2023, 2024 and 2025 will be 6.3 per cent, 7.1 per cent and 6.9 per cent. The imf expects the debt-to-gdp ratio in 2028 to be over 136 per cent. This would be a figure much in line with Italy’s in the last 20 or so years. 

Of course the imf is well aware that confidence in financial markets is fickle and volatile. Even if there are good reasons for scaring the horses about a nation’s financial condition, imf bureaucrats try to calm the beasts by offering propitiatory lumps of sugar. 

In the American context, it may not be entirely irrelevant that imf staff often live in Washington’s nicer suburbs and have friends in the Congressional Budget Office. 

The IMF’s numbers are both shocking and, probably, too low. Cynics might worry that a recession could push the deficit in 2024 and 2025 towards 10 per cent of GDP. Moreover, budget deficits are a bit like pregnancies: if nothing is done, they tend to grow. 

This year’s deficit adds to the debt, which means more debt interest next year, which results in a larger deficit, which adds more to the debt, which means even more debt interest in the year after next, which results in a yet larger deficit, and so on. Hence, the reference in Summers’s Peterson Institute lecture to “deficits a decade out comfortably in double digits as a share of gdp”. 

Not surprisingly, the USA’s credit rating is being reconsidered. On 1 August, Fitch, one of the big three rating agencies, downgraded US debt from AAA to AA+. (Standard & Poor’s had done the same thing over a decade ago, but Moody’s still awards the usa a aaa grade.) 

The risk is of a downward spiral. The lower the credit score, the higher the usa’s borrowing costs are, and the higher the borrowing costs and debt interest, the greater the probability of a self-reinforcing slide into unsustainability. 

America’s allies and partners — including the UK — cannot do much. The dollar is the world’s dominant currency, with us Treasuries and dollar bank deposits the principal kinds of international reserve asset. 

Historically, the temptation for over-indebted nations has been to reduce the real value of the debt by inflation. If governments and central banks around the world were to sense that the usa is not serious about honouring its financial commitments in money of stable purchasing power, they will want a higher real return on us Treasuries to compensate for the dangers. Again, that would enlarge the debt interest bill.

In the 1992 presidential election, Bill Clinton made the control of public debt a key issue, and his two-term presidency did indeed see an impressive reduction in the usa’s debt-to-gdp ratio. 

But Joe Biden and Donald Trump seem to have other things on their minds. Their silence on the USA’s fiscal unsustainability is a further reason for expecting that unsustainability to become entrenched.