THE LOOMING DEBT CRISIS

 

The Trump administration provides new issues daily for elected officials, policy experts, journalists, and economists to argue about. Under this constant barrage, the ever-present elephant in the room is the problem that gets ignored. Such is America’s case regarding the looming worldwide debt crisis.

Most wealthy nations are living beyond their means. Western Europe recognizes it has a problem, but is short on solutions. France is in a perpetual political crisis as it rotates through Prime Ministers unable to agree on increasing the retirement age to stop the bleeding. In Britain, the new Labor government has been forced to abandon promised help for the needy and instead must consider tax increases to plug the growing hole in the budget.

Italy faces a massive public debt (around €3 trillion or 150%+ of GDP) one of the highest debt-to-GDP ratios in the EU, making debt servicing costly, thus hindering productivity. The huge debts owed by the Greek government to the rest of the euro area cast a shadow over its financial future. Painful budget cuts, tax increases, high unemployment, and shrinking living standards/social services have offered little relief.    

In Japan, the debt crisis stems from decades of government borrowing to offset slow growth after its 1990s asset bubble burst. This led to a massive debt-to-GDP ratio (over 250%) and persistent deflation, forcing the Bank of Japan to keep rates low.

For the past several decades, one of the marvels of the world economy has been the ability of the United Staes to consistently borrow its way out of financial trouble. Under both Democrat and Republican administrations, the federal government has employed debt to fight wars, control global recessions (caused by the 2008 sub-prime mortgage crisis and the pandemic), and to increase domestic spending.

Net debt in America is now nearing 100% (on track to exceed 150%) of national income. The president and Congress continue to disregard this troubling development. Even creditors at home and abroad who should be alarmed are strangely quiet.

In the fall issue of Foreign Affairs, Kenneth Rogoff, Professor of Economics at Harvard University makes the case for a looming debt crisis.  His concerns and reasoning are explained in a comprehensive essay, America’s Coming Crash: Will Washington’s Debt Addiction Spark the Next Global Crisis?

Rogoff believes that America’s free lunch of continuous fresh borrowing is coming to an end. The past few years have cast doubt on the assumption that bond market investors will remain happy to digest “another large pile of dollar debt.” Long-term interest rates have risen. This means that the gross debt in our nation is now nearly $37 trillion, almost as large as all the other wealthy economies combined.

Rogoff concludes: “As of May 2025, all the major credit-rating agencies had downgraded U.S. debt, and there is a growing perception among banks and foreign governments that hold trillions of dollars in U.S. debt, that the country’s fiscal policy may be going off the rails. The increasing unlikelihood that the ultralow borrowing rates of the 2010s will come back anytime soon has made the situation all the more dangerous.”

Rogoff points out that despite Trump’s attacks on the Federal Reserve and his efforts to lower interest rates, his plans are constrained by the need to keep inflation in check. Moreover, the ‘Big Beautiful Bill,” by keeping taxes low for the wealthy, has increased the deficit.

No reasonable person can argue that the Trump administration alone is the cause of the looming debt crisis. The problem started decades ago. But Trump’s policies have been an accelerant. In his second term, he has embraced large deficits – an unsustainable six to seven percent of GNP for the rest of the decade.

Rogoff fears that to escape a debt crisis without “crushing austerity measures,” the administration might employ options normally associated with emerging markets. He points out that the so-called Mar-a Lago Accord, a strategy put forward by Stephen Miran, now head of Trump’s Council of Economic Advisors, suggested that the U.S. could “selectively default on its payments to the foreign central banks and treasuries that hold trillions of U.S. dollars.”

An easier third world option would be simply to print more dollars, and let inflation achieve a partial default by making creditor holdings less valuable. In normal times, the independence of the Federal Reserve would prevent this result to avoid inflation. These are not normal times.  If the nation finds itself in a financial crisis precipitated by the budget deficit, who knows what Trump will do?

Rogoff believes that Trump’s policies and those of previous administrations are “a huge wager on long odds.” Dependence on miraculous levels of growth and perpetual low interest rates cannot be guaranteed to support an out-of-control deficit. If the looming debt crisis explodes, forced austerity, high inflation, financial depression, and partial default would all be worse than a government-initiated response.

A Special Report in the October 18^th edition of the Economist, The Coming Debt Emergency offers some thoughts on how to avoid increasing public debt. Sweden adopted fiscal rules designed to ensure a budget surplus. It capped spending and eliminated open-ended appropriations. New Zealand, Switzerland, and even much larger Germany have enacted caps on deficits.

Our domestic solution would be a non-partisan agreement on a progressive plan of belt tightening and higher taxes to return debt to a manageable level. Every year’s delay makes it harder to achieve results.