New Fiscal Crisis Looming for the U.S.

Abstract

An assessment is presented of whether Greece’s current plight is a harbinger of similar adverse conditions likely to directly impact the United States in the intermediate- to long-term future.

Long-term deficits projected for 2020 and beyond, under the assumption that the economy is in full employment, are the source of major concern.

The 2007-09 recession and associated stimulus programs are not seen as an important factor contributing to the long-term fiscal problem. However, as a result of the government’s intervention in the bank crisis and the current fragile recovery from the recession, investors believe there is a palpable risk of default for U.S. debt securities. If global investors begin to demand higher yields on Treasury notes and bonds to compensate them for the higher risk of a U.S. default, U.S. borrowing costs would markedly increase, worsening projected deficits.

Analysis of foreign governments’ holdings of U.S. debt suggests China might be the first major past purchaser of U.S. debt which is deliberately reducing its holdings.

After considering other developments, it then seems manifestly clear that benign acceptance of continued growth of long-term structural deficits represents a non-sustainable strategy. A combination of government-imposed tax increases and sustained cuts in non-interest government spending, most likely in entitlement programs, appears to be mandated.

Thirty-one charts accompany the paper.

Keywords: sovereign debt crisis, U.S. federal budget, U.S. economy, recovery from recession, fiscal crisis, structural deficits, aging of the population, eurozone aid to Greece, austerity program, risk of default, Treasury bond ratings, savings rate, China’s purchase of U.S. debt, Fed Reserve Bank policy

JEL Classification: E21, E24, E32, E44, E58, E62, E65, F32, G24, G32, H62, H63, H87, I22, J14, J64, N20, P43, P44