“The federal budget is on an unsustainable path, with high and rising debt,” Federal Reserve Chairman Jerome Powell told the Joint Economic Committee on Nov. 13. “Over time, this outlook could restrain fiscal policymakers’ willingness or ability to support economic activity during a downturn.”
If this sounds overblown to you — it sounds understated to us — consider whether you are suffering from shortsightedness when it comes to economic history. This century, we have had persistently low inflation and near-zero interest rates. It’s easy to assume this is natural and normal. However, history says that these conditions are not normal at all. This is the biggest reason why the federal government’s debt is such an immense threat, and yet, at the same time, hardly anyone takes it seriously.
There are many reasons to be alarmed. The least of our worries is, as Powell put it, that the government will be unable to provide fiscal stimulus in a downturn. Far more alarming is the increasing share of government spending that must now go to service the debt — that is, pay interest and principal. Debt service does not benefit retirees or provide services. It is a dead loss, and in the future, it will choke off all useful government spending on the services and entitlements on which people have come to rely.
In an era of low interest rates, the most facile thinkers have argued that the 2000s and 2010s were a great time for the government to let loose, to think big and borrow big, knowing that tomorrow’s rates will be higher. This would almost make sense if the government debt were a 30-year mortgage, but it isn’t. A very large share of public debt — that is, the debt not held by the government itself — is borrowed for periods between 30 days and 10 years. This debt is constantly coming due and is paid back with money raised by yet more short-term borrowing at prevailing interest rates.
Borrowing today requires us to borrow tomorrow. We’re constantly refinancing, not out of choice but out of necessity. Federal debt is thus a lot more like an adjustable-rate mortgage than a 30-year fixed mortgage. This means it has been a great deal for borrowers during the past 20 years, but a quick rise in interest rates even just to levels that prevailed in the late 1990s could ruin your life in the space of months.
A reversion of interest rates to anything approaching the historical norm could be devastating. By the end of this century, debt service is projected to be the largest single item in the annual federal budget, exceeding all entitlement and discretionary spending combined. If this is allowed to happen, the government will face a ruinous choice between default and the devaluation of the currency through an inflationary monetary policy.
The dollar is the world’s reserve currency. China’s economy has risen from the ashes of Maoism, lifting an enormous and growing Chinese middle-class population that spent decades furiously saving money while Americans were furiously spending it. These circumstances, combined with perennially low interest rates and low inflation, permitted Americans to live far beyond their means for a very long time. Among the consequences was the unnaturally rapid growth of U.S. government borrowing. To borrow massively for exceptional reasons, such as war, is good policy. To borrow massively for normal, day-to-day expenses is utter folly.
But it won’t last forever because it cannot last forever. As conditions change, as they must, our fiscal condition will deteriorate. This is why members of Congress must heed Powell’s words, mind the debt, and reduce spending before it’s too late.