The Obama administration's biggest problem is the national debt, a commentator asserted in the Financial Times of London on Monday. -- Roger Altman, a former deputy secretary of the Treasury, said: "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 recordkeeping 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." -- The most likely outcome to this situation, Altman said, is a solution "imposed by global markets." -- "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." -- COMMENT: In this regard, it is interesting to reread what Paul Kennedy said about this more than twenty years ago in The Rise and Fall of the Great Powers (Random House, 1987): -- "[I]t has been a common dilemma facing previous 'number-one' countries that even as their relative economic strength is ebbing, the growing foreign challenges to their position have compelled them to allocate more and more of their resources to the military sector, which in turn squeezes out productive investment and, over time, leads to the downward spiral of slower growth, heavier taxes, deepening domestic splits over spending priorities, and a weakening capacity to bear the burdens of defense. -- If this, indeed, is the pattern of history, one is tempted to paraphrase Shaw's deadly serious quip and say: 'Rome fell; Babylon fell; Scarsdale's turn will come.' -- In the largest sense of all, therefore, the only answer to the question increasingly debated by the public of whether the United Sates can preserve its existing position is 'no' -- for it simply has not been given to any one society to remain permanently ahead of all the others. . . . The task facing American statesmen over the next decades, therefore, is to recognize that broad trends are under way, and that there is a need to 'manage' affairs so that the relative erosion of the United States' position takes place slowly and smoothly, and is not accelerated by policies which bring merely short-term advantage but longer-term disadvantage" (pp. 533-34). -- In the decades following the publication of this book, of course, the U.S. national security state did precisely the opposite....
AMERICA'S DISASTROUS DEBT IS OBAMA'S BIGGEST TEST
By Roger Altman
Financial Times (London)
April 19, 2010
The global financial system is again transfixed by sovereign debt risks. This evokes bad memories of defaults and near-defaults among emerging nations such as Argentina, Russia, and Mexico. But the real issue is not whether Greece or another small country might fail. Instead, it is whether the credit standing and currency stability of the world’s biggest borrower, the U.S., will be jeopardized by its disastrous outlook on deficits and debt.
America’s fiscal picture is even worse than it looks. The non-partisan Congressional Budget Office just projected that over 10 years, cumulative deficits will reach $9,700bn and federal debt 90 per cent of gross domestic product -- nearly equal to Italy’s. Global capital markets are unlikely to accept that credit erosion. If they revolt, as in 1979, ugly changes in fiscal and monetary policy will be imposed on Washington. More than Afghanistan or unemployment, this is President Barack Obama’s greatest vulnerability.
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 recordkeeping 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 defence 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.
It is Mr. Obama’s misfortune to preside over this. The severe 2009-10 fiscal decline reflects a continuation of the Bush deficits and the lower revenue and countercyclical spending triggered by the recession. His own initiatives are responsible for only 15 per cent of the deterioration. Nonetheless, it is the Obama crisis now.
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 U.S. Treasury secretary under President Clinton