It’s not just a US problem but a global one too. In January, the US treasury secretary Janet Yellen announced that the country had hit its maximum debt of $31.4 trillion and that she had begun taking “extraordinary measures” – accounting window dressing – to conserve cash.
These measures are meant to delay the onset of “x-date”, the day the US would have to default on its debt because it would have exceeded its legally binding debt limit.
While no historical precedent exists for the US government passing the x-date without Congress raising or suspending the statutory limits on the federal debt, the consequences of default cannot be ignored. The first consequence would be significant disruptions to financial markets that would damage the economic conditions faced by households and businesses.
Considering the impact of the US economy on the global front, a US government default will inevitably have ripple effects on most other economies.
Financiers, international economic policymakers and business leaders are now focusing on the unthinkable.
The likely impacts of a default would be devastating. Global stocks would plunge and interest rates rise, making borrowing costs more onerous.
Economic growth would stall and the dollar’s status as the world’s dominant currency would be shaken. The global economy would be badly affected when there is still so much uncertainly disrupting growth prospects.
This is not the first time the US has faced the prospect of passing the x-date.
Some will argue that the negotiations between Republicans and Democrats are just part of the political theatrics and sabre-rattling that, unfortunately, are ingrained in many Western democracies. Still, there are lessons to be learnt by all democratic countries when the risks of fiscal largesse are not managed appropriately.
America’s growing debt results from simple mathematics – each year, there is a mismatch between government spending and revenue.
The US government tax revenues cover only four-fifths of government spending. Trying to address this problem abruptly would immediately impact the GDP and bring about a deep recession in the US, with severe consequences on the global economy.
While breaching sovereign debt ceilings is considered acceptable to deal with national emergencies like wars and pandemics, today’s soaring debts, not just in the US, are a consequence of political leaders procrastinating on implementing structural reforms. Like many European countries, including Malta, the US suffers from structural factors mitigated by increasing borrowing rather than implementing reforms.
Deteriorating demographics, rising healthcare costs (even without the burden of wasteful projects), and a tax system that does not bring in enough money to pay for what the government has promised its citizens will inevitably lead the debt mountain to get bigger. Kicking the economic reforms can down the road is a disservice to future generations who already face formidable challenges.
The interconnectedness of the global economy means that any disruption in the wheels driving the US economy will inevitably impact other global economies. This is particularly relevant to countries like Malta that have an open economy and have to pay for almost everything they consume by exporting services.
Even if the x-date – June 1 – in the US is not passed, there are lessons to learn to avoid the risks linked to rising sovereign debt in Western economies. Governments that fail to address structural economic weakness and expect investors to keep buying their debt, risk facing catastrophic consequences.