In the United States, the numbers don’t add up. The country entered a spiral of deficits and debt triggered by the 2007-2008 financial crisis, exacerbated by the COVID-19 pandemic, and has not been resolved since. In most other countries, this lack of fiscal discipline is unsustainable. And some in the United States are concerned that this may apply here as well. The public deficit doubled last year due to a decline in tax revenue. The amount of debt held by the nation continues to exceed its peak during World War II, and long-term interest rates have reached 5% due to a variety of factors. The problem will only worsen with an aging population and political gridlock in Congress, where Democrats and Republicans remain at odds.
The US federal government’s fiscal year ends on September 30th, and budget execution data has just been released. With revenue collections of $4.4 trillion and expenditures of $6.1 trillion, there remains a deficit of $1.7 trillion, equivalent to 6.3% of gross domestic product (GDP). The deficit in 2022 was $1.37 trillion. But these numbers are skewed. The administration budgeted for a $379 billion plan to forgive student loans in 2022, but the plan was struck down by the Supreme Court in June and was never implemented. The $333 billion reversal was recorded this year as spending declines in 2023.
Taking this into account, the budget deficit more than doubled to $2 trillion (7.5% of GDP), the last time this threshold was exceeded during the two years of the pandemic. The main reason was a 9% decline in revenue. The U.S. Treasury said the shortfall was due to the fact that collections were particularly high last year thanks to pandemic recovery and revenue from capital gains taxes. What surprised analysts was that the deficit soared during a period of growth and job creation, when the opposite is usually true.
Total public debt reached 121% of GDP, but this figure is misleading as it includes $7 trillion of intra-governmental debt. A relevant data point was the amount of debt held by the population, which was 98%. Based on this standard, the World War II effort brought the US public debt to its historic peak of 106% of GDP in 1946. Strong growth over the next few decades reduced it to 23% of GDP in 1974, before the oil crisis. It rose in subsequent decades, but was still at a healthy 35% in 2007, before the financial crisis.
It rose to 79.4% in 2019 due to the financial crisis, new spending items, and tax cuts. It rose to 100.6% of GDP due to additional spending and lower economic activity due to the pandemic. Despite the subsequent recovery, the debt held by the people remains at a high level. While reaching 98% of GDP is by no means unsustainable, the U.S. fiscal trajectory is unsustainable, and even more unsustainable in an environment of high interest rates and persistent budget deficits.
prediction from Congressional Budget OfficeIndependent institutions suggest that public debt will surpass a record high in 2029, reaching 107% of GDP. The bureau predicts that in 2033 he will rise to 115%. It will reach 144% in 2043 and 181% in 2053. “Such high and growing debt would slow economic growth, drive up interest payments to foreign holders of U.S. Treasuries, and pose significant risks to the fiscal and economic outlook. “They may also feel more constrained in the future,” the report said.
“An unsustainable fiscal path in the United States is nothing new,” Bank of America warned. “What is new is that we are pricing in higher interest rates for a longer period of time. Interest costs directly affect how much the U.S. government needs to spend to finance its debt, and the overall The report projects the budget deficit to reach $1.8 trillion in the new fiscal year, $1.9 trillion in 2025 and $2 billion in 2026. “Rising interest rates will increase fiscal deficit spending, which will result in increased UST issuance, creating a spiral effect,” it added.
In its latest report on the United States, the International Monetary Fund (IMF) said that “a decisive reduction in public debt will require larger fiscal adjustments in the medium term.” “Achieving this adjustment will require a wide range of policies, including both raising taxes (even for people making less than $400,000 a year) and addressing structural imbalances in Social Security and Medicare. The sooner the better.”
Without a fundamental review, there is little room to reduce the budget deficit. The budget law only allows for discretionary spending, and that proportion is decreasing. Even the spending cuts demanded by Republicans won’t solve the problem. Mandatory spending on things like pensions and Medicare are viewed by Democrats (and a significant portion of Republicans) as untouchable. Meanwhile, Republicans (and some Democrats) flatly refuse to raise taxes. With Republicans controlling the Senate and Democrats controlling the House, political tensions are likely to block any proposals to reduce the budget deficit.
If a deal is not reached after the short-term spending bill expires on Nov. 17, a divided Congress could lead to a partial shutdown of the federal government. Beyond the immediate debate over spending, the first litmus test for fiscal policy will come in principle. , at the end of fiscal year 2025, Donald Trump’s tax cuts included in the Tax Cuts and Jobs Act of 2017 (TCJA) will expire.
“If Trump wins the next election, of course, assuming the Republicans are able to regain full control of Congress, the chances of the TCJA being extended will increase significantly,” said fund manager AXA Investment Managers. Jill Moeck, chief economist at “This could be offset by decisive action on spending, but given the new demographics of Republicans, it would be easy for the federal government to eliminate senior health insurance and pay-as-you-go pensions. Maybe not,” he explains.
Moeck believes current President Joe Biden has a “comprehensive and internally consistent economic plan,” but not one that involves fiscal consolidation. “The Biden 2.0 administration will probably be more interested in addressing America’s fundamental fiscal problems than the Trump 2.0 administration is willing to raise taxes,” he explains. But for Biden to raise taxes, Democrats would need to control both the House and Senate. The economist noted that the demands of the American people are “cacophonous.” They want the kind of spending on Social Security and health care that Democrats champion, but with the lower taxes that Republicans advocate, he says. Moeck points out that markets will begin to monitor U.S. politics more closely in the lead-up to the 2025 presidential election. “Markets want a little peace and quiet. It’s unlikely to get that from American politics in the near future,” he says.
There is little room for political maneuver when it comes to taxes and spending. Similarly, interest rates are determined by the level of public debt and market interest rates, which are not controlled by the government. Rising debt interest rates are making it more expensive to refinance maturing securities, sparking debate as to why. Initially, it was linked to monetary tightening by the US Federal Reserve (Fed). But the market has now reached a paradoxical point where it is moderating expectations for future Fed rate hikes while at the same time demanding higher long-term yields.
The debate centers on whether these high interest rates reflect the strength of the U.S. economy, as Treasury Secretary Janet Yellen claims, or whether U.S. debt, by definition, is considered a risk and yet The question is whether the route is being penalized by a type of risk premium. -Free assets. “I think more investors are starting to look at the trajectory of the U.S. budget deficit from below,” Moeck said, emphasizing the large amount of issuance.
Tiffany Wilding, an economist at PIMCO, said the bond sell-off that is pushing up long-term interest rates is “primarily driven by investors’ expectations of an increasingly robust U.S. economy,” rather than concerns about further rate hikes. I believe. She explains: “We believe this decline is due to lower recession expectations, which could ultimately lead to an increase in the supply of $3.5 trillion in U.S. Treasuries,” Wilding said. He acknowledges that it may seem “counterintuitive” as the deficit increases and the deficit decreases. But that is not the case now, as central banks can significantly reduce their bond holdings absent an impending recession.
Garrett Melson, portfolio strategist at fund manager Natixis, said the interest rate hike “has a lot of investors scratching their heads and trying to justify the policy.” But he rejects the “tidy narrative” that bond vigilantes and deficit spending are to blame.
“While there is nothing wrong with the current fiscal situation in the United States, it is no surprise that this path is unsustainable. “It’s not new news that we discovered,” he says. “The need to fund widening budget deficits is not new news that investors suddenly discovered over the summer.” Melson also said that if the sustainability of the fiscal path is to blame, the dollar will decline. They say they should have done it, but the opposite happened.
“Certainly, if the budget deficit widens, government bond issuance will increase, and if there is no increase in demand, yields will rise,” he concedes. “That’s certainly part of the story, but the movement in interest rates seems to be driven by a confluence of events that trigger a buyer strike, as opposed to a single conclusive piece of evidence like deficit concerns. ”
Melson said possible reasons for this include macroeconomic instability, doubts about how growth and inflation will develop, and uncertainty surrounding the Treasury’s issuance plans to finance persistent budget deficits. said. “Marginal buyers of U.S. Treasuries are becoming increasingly price-sensitive. A more price-sensitive buyer base combined with a high volatility environment creates the perfect conditions for a vicious cycle to continue. If there is more, the marginal demand will be lower, which will lead to an increase in the volume of trade, and it will go on and on,” he explains.
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