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Tuesday, September 22, 2020

The Debt Blows Up

By the end of 2020, CBO reports, federal debt held by the public is projected to equal 98 percent of GDP. The projected budget deficits would boost federal debt to 104 percent of GDP in 2021, to 107 percent of GDP (the highest amount in the nation’s history) in 2023, and to 195 percent of GDP by 2050.

If federal debt as a percentage of GDP continued to rise at the pace that CBO projects it would under current law, in the long term the economy would be affected in two significant ways: 
  • That debt path would raise borrowing costs, reduce business investment, and slow the growth of economic output over time,7 and
  • Rising interest costs associated with that debt would increase interest payments to foreign holders of U.S. debt and thus reduce U.S. national income.
Persistently rising debt as a percentage of GDP would also pose significant risks to the fiscal and economic outlook, although financial markets currently do not reflect those concerns. In particular, that debt path would have these economic and financial effects:
  • It would increase the risk of a fiscal crisis—that is, a situation in which investors lose confidence in the U.S. government’s ability to service and repay its debt, causing interest rates to increase abruptly,inflation to spiral upward, or other disruptions—and 
  • It would increase the likelihood of less abrupt, but still significant, negative effects, such as expectations of higher rates of inflation and more difficulty financing public and private activity in international markets.
In addition, high and rising debt makes government financing more vulnerable to increases in interest rates because costs to service that debt rise more for a given increase in interest rates when debt is higher than when it is lower. High and rising debt also might cause policymakers to feel restrained from implementing deficit-financed fiscal policy to respond to unforeseen events or for other purposes, such as to promote economic activity or strengthen national defense.