Tuesday, 19 April 2011

US National Debt

Yesterday the credit rating agency Standard and Poor’s flagged a warning on the USA’s long term credit rating. 
Basically they said that it remains AAA at the moment, but in the future it won’t unless the US government takes action to reduce its National Debt. The announcement has sent shockwaves around the markets, but someone had to say it sooner or later. The level of US National Debt has been rising steadily since George Bush Jr was elected (some still say that he wasn’t)!

When my doctor asked me yesterday (I've got gout again) whether I was pro-Bush or Pro-Obama I hesitated, not being sure that I had understood him. He explained that he had recently had an American in his consulting room who was strongly anti-Obama. He must have been a Republican or a member of the Tea Party!

I find it hard to say anything positive about George Bush Junior. On the false pretext that Iraq and Al-Quaeda were allies, he led the US, and I am ashamed to say the UK as well, into a pointless war in Iraq, the consequences of which are still with us today. He also reversed Clinton’s good work in reducing the US National Debt by lowering taxes and increasing military spending just like Reagan and Bush Senior did in the 80’s and 90’s.

Obama on the other hand has continued to increase the National Debt in the belief that he needs to prevent a recession. It does seem that he lacks a certain decisiveness and tends not to lead from the front, preferring to join the rest of the politicians and bury his head in the sand. Unfortunately, just like with your own domestic finances, there are limits to the amount a nation can borrow. At the moment no one is saying that the US can’t meet its interest payments but the market will react by increasing interest rates to reflect the perceived risk and it will get more expensive to service their debt if nothing is done to reduce borrowing soon.  In Greece, Portugal and Ireland we have already seen the results of unrestrained borrowing and yet on average European National Debt is only half that of the US.

click to enlarge
At present the Federal Reserve is printing dollars, it’s called “Quantitative Easing” and it’s intended to increase liquidity in the real economy. This has the short term effect of preventing banks collapsing, and it keeps the economy growing, at least temporarily, but the dollar’s value against other currencies declines. Eventually, if you continue to print money you end up with hyper inflation. This is what happened in the past in Germany and some South American countries. Under the Weimar Republic, in the twenties, you needed millions of deutschmarks to buy a loaf of bread.

The US dollar is, however, a Reserve Currency and, at present, countries with surpluses like China, Russia and Brazil are still prepared to buy dollars and hold dollar bonds. If the rating agencies downgrade the USA’s credit rating, dollar interest rates could easily double in a very short period and the dollar could lose its reserve status. The US would then be faced with finding the extra short term cash to service the National Debt, which would mean increased taxes and spending cuts, which would have a devastating effect on Federal programmes, including the defence budget.

The problem is that a first term president is always looking to the next election. Quite simply raising taxes and cutting spending is bad for votes. If Obama is re-elected in 2012 then he will have nothing to lose by tackling the National Debt, but he will still have to persuade Congress and the Senate to vote for tax rises and spending cuts!

My doctor and I both agreed, however, that when the USA sneezes the rest of the world catches a cold, so the prognosis is bad! A stronger Euro will make it even more dificult to export and will reduce still further our UK pensions!

Mean while take a look at the US National Debt Clock and try to find some numbers which are reducing!


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