The fact is that the cost of any foreign venture today needs to be weighed against the perilous state of our balance sheet and the degree to which others could sink us so quickly. I have not always been a Buchanan, but we need to bring our focus back home and let others carry the globe for a while. Imagine how much our global stewarding efforts will be appreciated after we leave them to others! If we don’t fix our financial problem very soon, our nation needs to start looking for a park bench in St. Petersburg, FL because our days as a player will be history.”
America’s disastrous debt is Obama’s biggest test
By Roger Altman
Published: April 19 2010 23:05 | Last updated: April 19 2010 23:05
How bad is the outlook? The size of the federal debt will increase by nearly 250 per cent over 10 years, from $7,500bn to $20,000bn. Other than during the second world war, such a rise in indebtedness has not occurred since record keeping began in 1792. It is so rapid that, by 2020, the Treasury may borrow about $5,000bn per year to refinance maturing debt and raise new money; annual interest payments on those borrowings will exceed all domestic discretionary spending and rival the defense budget. Unfortunately, the healthcare bill has little positive budget impact in this period.
Why is this outlook dangerous? Because dollar interest rates would be so high as to choke private investment and global growth.
Now, the economy is too weak to withstand the contractionary impact of deficit reduction. Even the deficit hawks agree on that. In addition, Mr Obama has appointed a budget commission with a December deadline. Expectations for it are low and no moves can be made before 2011.
Yet, everyone already knows the big elements of a solution. The deficit/GDP ratio must be reduced by at least 2 per cent, or about $300bn in annual spending. It must include spending cuts, such as to entitlements, and new revenue. The revenues must come from higher taxes on income, capital gains and dividends or a new tax, such as a progressive value added tax.
It will be political and financial factors that determine which of three budget paths America now follows. The first is the ideal. Next year, leaders adopt the necessary spending and tax changes, together with budget rules to enforce them, to reach, for example, a truly balanced budget by 2020. President Bill Clinton achieved a comparable legislative outcome in his first term. But America is more polarized today, especially over taxes.
The second possible course is the opposite: government paralysis and 10 years of fiscal erosion. Debt reaches 90 per cent of GDP. Interest rates go much higher, but the world’s capital markets finance these needs without serious instability.
History suggests a third outcome is the likely one: one imposed by global markets. Yes, there may be calm in currency and credit markets over the next year or two. But the chances that they would accept such a long-term fiscal slide are low. Here, the 1979 dollar crash is instructive. The Iranian oil embargo, stagflation and a weakening dollar were roiling markets. Amid this nervousness, President Jimmy Carter submitted his budget, incorporating a larger than expected deficit. This triggered a further, panicky fall in the dollar that destabilized markets. This forced Mr Carter to resubmit a tighter budget and the Fed to raise interest rates. Both actions harmed the economy and severely injured his presidency.
America’s addiction to debt poses a similar threat now. To avoid an imposed and ugly solution, Mr Obama will have to invest all his political capital in a budget agreement next year. He will be advised that cutting spending and raising taxes is too risky for his 2012 re-election. But the alternative could be much worse.
The writer is chairman of Evercore Partners and was deputy US Treasury secretary under President Clinton