The U.S. Capitol in Washington D.C., on July 27.HAIYUN JIANG/The New York Times News Service
Most Americans were not thinking much about their country’s fiscal mess last week as another criminal indictment of former president Donald Trump crowded out the news of a debt downgrade by Fitch Ratings.
Yet, the charges brought against Mr. Trump related to his alleged attempts to overturn the results of the 2020 presidential election only underscored the governance deficit that Fitch cited in its decision to cut the country’s triple-A credit rating to double-A-plus.
The dysfunctional U.S. Congress seems incapable of tackling the country’s spiralling debt load, with the costs of big entitlement programs such as Social Security and Medicare exploding as the baby boomer generation retires. Instead, the prosecution of Mr. Trump dominates the conversation as Republicans and Democrats gear up for the 2024 election.
A combination of spending cuts, tax increases and entitlement reforms are needed to put the U.S. Treasury on a sustainable fiscal trajectory. But the political will to make such changes remains nowhere in sight. Both parties are vowing never to touch entitlement benefits.
Congress did agree to modest spending cuts in May as part of a bipartisan deal to suspend the US$31.4-trillion federal debt ceiling until early 2025. The debt now stands at US$32.6-trillion, with the U.S. Treasury projected to borrow US$1-trillion in the third quarter alone.
Treasury Secretary Janet Yellen pointed to the debt-ceiling deal, and the recent strength of the U.S. economy, to push back against Fitch’s “puzzling” decision, saying: “Despite the gridlock, we have seen both parties come together to pass legislation to resolve the debt limit and to make historic investments in our infrastructure and American competitiveness.”
Former Treasury chief Larry Summers also shot back at Fitch: “The United States faces serious long-run fiscal challenges. But the decision of a credit-rating agency, as the economy looks stronger than expected, to downgrade the United States is bizarre and inept.”
Still, it is impossible to deny that the U.S. government’s fiscal situation has deteriorated substantially since Standard & Poor’s became the first ratings agency to strip it of the coveted triple-A designation in 2011 amid a similar debt-ceiling standoff in Congress.
Back then, U.S. federal debt held by the public totalled about 65 per cent of gross domestic product. The Congressional Budget Office projected in June that it will reach 98.2 per cent of GDP by the end of the current fiscal year on Sept. 30, 118.9 per cent in 2033 and 181 per cent by 2053.
Any other country with a similar debt profile would not be worthy of a triple-A rating.
Fitch’s measure of U.S. general government debt (which includes federal, state and local government debt held by investors and public agencies) stands at 113 per cent of GDP. While down from a pandemic-period high of 122 per cent, Fitch said the ratio remains three times higher than the median for triple-A borrowers, which stands at 39.3 per cent of GDP.
What’s more, the U.S. debt ratio is set to deteriorate sharply in coming years as trust funds set up to pay out Social Security and Medicare benefits are depleted. Tax cuts passed by a Republican-led Congress when Mr. Trump was in office are set to expire in 2025. But Fitch expects that political pressure will force Congress to make the cuts permanent, resulting in even higher debt and deficits than under the CBO’s projections, which reflect “current laws.”
Unlike in 2011, when the stock market tanked after Standard & Poor’s rating cut, the Dow Jones Industrial Average rose on the first trading day after Fitch’s downgrade. Yields on longer-term Treasury bonds increased early last week but fell back after Friday’s cooler-than-expected jobs report reduced (if only somewhat) the prospect of another interest rate increase by the U.S. Federal Reserve as it seeks to quash inflation.
With many economists now saying the U.S. economy could achieve the “soft landing” that the Fed has been hoping for, the U.S. government’s near-term fiscal prospects are looking better than they did under the rampant recession scenarios of a just a few months ago.
As long as the U.S. dollar remains the world’s dominant reserve currency, the voracious global appetite for U.S. Treasury bonds means the U.S. government is unlikely to have a problem financing its ever-expanding deficits. Whether that makes the United States immune from a fiscal crisis, and Fitch’s downgrade moot, is a matter of debate.
A country consumed with the circus-like criminal prosecution of its former president hardly inspires confidence in its ability to get its fiscal act together.