Uncertainty about whether the U.S. Congress will raise the debt limit has helped push bond prices to multi-decade lows and given the U.S. Federal Reserve second thoughts about raising interest rates again when it meets next week, Bloomberg reported.
Also, the U.S. debt has grown larger than the GDP, thanks to Trump-era tax cuts, COVID War spending, and President Joe Biden’s massive spending on infrastructure, clean energy, and the domestic semiconductor industry.
“It’s been conventional wisdom for a while that the federal budget is on an unsustainable path of mushrooming debt,” Bloomberg noted, “but a confluence of recent events has pushed those concerns to the forefront.”
In August, Fitch Ratings downgraded the U.S. credit rating amid Congress’s budget bickering and the treasury’s announcement that it would need to borrow more than it had expected to this year.
Earlier this month, the Congressional Budget Office calculated that this year’s budget deficit would be 20 percent more than last year’s, reaching $1.7 trillion.
“It’s hard to believe that [current U.S. fiscal policy] is sustainable,” Fed governor Christopher Waller said at a conference on 11 October.
Deficits and growing debt can fuel inflation, which the Fed could try to head off by raising interest rates again, Bloomberg said. However, ongoing fiscal gloom can push up long-term interest rates if investors see a grim future; that could stymie growth and kill jobs.
“We’re witnessing the beginning of a regime change in how investors perceive America’s fiscal sustainability,” Kevin Warsh, a former Fed governor, said in comments quoted by Bloomberg.
Fed officials need to warn the public about the dangers of a growing national debt and ever-expanding yearly deficits, Mark Sobel, a former treasury official and U.S. chair of the Official Monetary and Financial Institutions Forum, a research group, said in a public statement.
Higher bond rates are having a similar effect on inflation that another Fed rate hike would, so analysts widely expect the central bank to leave interest rates untouched when it meets next week.
However, the rate-setting Open Market Committee is likely to leave open the possibility of another rate bump in December.
“The threat of another rate hike will remain with us as long as we’re approaching inflation so far above their target” of 2 percent, Julia Coronado, founder of consulting firm MacroPolicy Perspectives, told Bloomberg.
“If the bond market is starting to decipher more accurately the effective fiscal position of the U.S., we’re in trouble,” Douglas Holtz-Eakin, George W. Bush’s budget director, said to Bloomberg.
Warsh is equally worried. “It’s exceedingly difficult to have sound monetary policy without sound fiscal policy,” he commented to Bloomberg, “and U.S. fiscal policy is decidedly unsound.”
TREND FORECAST: The two main U.S. political parties are deeply and inflexibly entrenched in their conflicting ideologies: Republicans want to cut taxes but keep voting for inflated federal budgets, while Democrats want to keep borrowing and spending with little apparent thought for long-term consequences.
When the Democratic majority in Congress cut spending and raised taxes in 1993, they delivered a balanced budget but were voted out in 1994. Politicians learned that lesson.
It will take a financial earthquake on the scale of the Great Recession in 2007 to shake politicians out of their comfort zones and make some hard compromises that might begin to bring fiscal sense to the federal budget.