For the past decade, international economists and ratings agencies have been blaming Italy’s gigantic debt load for making the nation the most worrisome basket case among Europe’s major economies. That burden is so heavy that Italy can only lure investors to buy its bonds by paying rates 2.5% higher than those of fiscally prudent Germany. Its economy advances at such a sluggish pace in good times––a paltry 0.8% on average from 2014 to 2019––that Italy can’t generate gains in tax revenues big enough to match the rising trajectory in government spending, meaning that its deficits and borrowing are destined to keep expanding unless it enacts a severe austerity program to curb expenditures.
Experts have long feared that the weight of that ever-rising mountain of euros is so great only a Greece-like bailout can keep Italy from exiting the common currency. Meanwhile, you can see the effects of Italy’s creaky public finances in towns and cities across the country: Chronic underinvestment has led to spiraling youth unemployment. Those caught up in the country’s failed economic policies are known as la generazione perduta—“the lost generation.”
It’s unlikely that America will face the kind of crisis threatening Italy: a sudden perception that reckless spending and crippling debt make the nation a serious credit risk, spurring foreign creditors to dump our Treasuries. That flight would drive rates higher, forcing our government to pay much more interest on the trillions in bonds that roll over each year, and that extra expense would push already dangerous deficits even higher. As demonstrated in the COVID-19 crisis, the U.S. has amazing flexibility to borrow heavily in perilous times, since overseas investors revere the dollar as the world’s safest haven, on faith that the greenback will hold its value versus the world’s other currencies. Those creditors are also banking that U.S. prices stay stable, so that surging inflation won’t undermine the value of their Treasuries.
But now, the spending explosion designed to combat the ravages of the pandemic is on track to raise our federal burden alarmingly close to Italy-like proportions. “Many economists are saying that spending that takes us to Italy’s levels are fine because interest rates will stay extremely low forever,” says Brian Riedl, a budget specialist at the conservative Manhattan Institute. “But the U.S. is taking a gigantic risk by piling on all of this debt. And even the optimistic assumptions about where rates are heading means that interest will swamp the budget, not next year, but in the decades ahead.”
Until the presidential election and the twin runoffs in Georgia, it was unclear if spending and borrowing would slow, or follow last year’s pattern of putting new stimulus before worries about ballooning debt and deficits. But President-elect Biden’s campaign platform, and his promise to deliver $2,000 checks to most Americans that is now apparently backed in both houses of Congress, point to another blowout in 2021. At the close of fiscal 2019 (ended Sept. 30), U.S. debt held by the public stood at $16.8 trillion, or 79.2% of GDP. But in 2020 the U.S. posted a staggering $3-trillion-plus deficit that by the end of fiscal 2020 swelled the federal burden to $20.3 trillion and lifted the debt-to-GDP ratio, the measure of how much we owe versus how much we earn, to 97%, a jump of almost 18 points.
Before President Trump signed the new, $900 billion stimulus package, the Congressional Budget Office reckoned that the 2021 deficit would total $1.8 trillion. Riedl forecasts that the Trump measure, plus additional aid promised by Biden, will push the 2021 shortfall to at least $3 trillion. So in just two years, the U.S. debt will mushroom from $16.8 trillion to a minimum of $23.3 trillion, a jump of $6.5 trillion or almost 40% in just 24 months.
Where does that put the U.S. versus Italy and other notorious debtors? All the international comparisons this writer could find are based not on “debt held by the public,” the measure cited above, but a government’s total borrowings. The difference is that the former doesn’t include money a state owes to itself––such as our borrowings from the Social Security trust funds––while the latter encompasses intergovernmental lending. Still, the comprehensive debt numbers provide a useful measure of America’s rise in the ranks of most heavily indebted nations.
Using all national debt as the metric, the U.S. in 2020 had borrowings to GDP of around 134% according to Commodity.com, whose website shows current debt and GDP levels for a number of nations. That’s a jump from under 109% in 2019. Right now, Italy stands at 152%. So U.S. debt as a proportion of the national income needed to pay for it is now almost 90% as high as for the sick man of Europe. In 2020, the U.S ranked third in debt-to-GDP among the 21 nations with GDP of over $500 billion. Besides Italy, the only country carrying a heavier load was Japan, at 258%. At 134%, America’s load by the end of last year dwarfed that of South Korea (44%), China (48.5% in 2020), India (52%), the U.K. (90%), Brazil (97%), and France (106%).
We can assume that the anticipated extra $3-trillion-plus deficit will raise our debt-to-GDP ratio next year to around 150%. Of course, it’s likely that Italy will also significantly raise spending to fight a deep recession, thus maintaining its lead over the U.S. Still, we’re getting close.
Deficit doves vs. hawks
Does a balance sheet that looks more and more like Italy’s really pose a threat? Not according to economists such as Larry Summers, the former Treasury secretary, and Jason Furman, a top adviser under President Obama, who argue that America needs a lot more stimulus spending and can easily afford it because interest rates will stay extremely low for many years to come, owing in part to a global savings glut that will keep foreigners buying our Treasuries at bargain yields far into the future. But as Riedl points out, shouldering over $23 trillion in debt by late next year poses big risks. “The CBO is forecasting that the yield on 10-year Treasuries goes from today’s just over 1% to 4.4% over the next 30 years,” he says. “At that point, interest would be absorbing half of all revenues. We could get there a lot faster because accumulating so much debt could prompt borrowers to demand higher yields as compensation for the growing danger of holding U.S. debt. It takes a lot of hubris to risk your solvency on the assumption rates stay unusually low forever.”
Taking on big leverage, whether it’s a nation or a household, is always a gamble. To be sure, the U.S. is a much stronger economy, and can handle a lot more debt, than Japan, Greece, or Italy. But moving in their direction limits our margin for error in countering another crisis like COVID-19, or even another financial hurricane. If disaster strikes again, we’ll be putting our fate in the hands of our foreign creditors, headed by Japan and China.
How much confidence they’ll still have in the world’s reserve currency is anybody’s guess.
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