" For eight years under president George W. Bush, the U.S. ran large deficits, borrowing abroad to pay domestic debts. Since the recession struck, the deficits have exploded, as has the necessary borrowing.
The Congressional Budget Office recently pegged the 2009 deficit at $1.6-trillion (U.S.) and the 2010 deficit at $1.4-trillion. For the next 10 years, 2010 to 2019, the CBO forecast accumulated deficits of $7-trillion. Beyond 2019, it says, “the budget remains on an unsustainable basis.”
Many are the uncertainties and perils of this parlous economic time, but none are greater than how the United States, a declining superpower, will respond to this fiscal nightmare.
In theory, the U.S. could raise taxes and/or reduce spending, measures that along with a return to some semblance of normal economic growth would lower the deficit and the country's debt-to-GDP ratio. Such measures would stabilize, even possibly strengthen, the U.S. dollar.
In practice, Congress has repeatedly shown itself to be adept at cutting taxes and raising spending, and hopeless at raising taxes and cutting spending. Moreover, President Barack Obama was elected on a promise not to raise taxes on anyone earning less than $250,000 a year. He also promised a wide range of new spending measures, some of which must now be parked, given the severity of the deficit/debt problem.
Couple this massive borrowing with a chronic trade deficit, and the U.S. dollar will fall, and keep falling. It has already lost slightly more than 10 per cent of its value since the spring against a basket of other currencies. Given the U.S. deficits on budget, trade, current account and petroleum, there is little to keep the U.S. dollar from losing more relative value.
The great sucking sound that the world hears is that of the United States taking money from abroad to pay for its choices. But it is becoming increasingly clear that lending countries are hedging their bets, if not beginning to lose complete confidence in the ability and/or willingness of the U.S. political system, and of the wider society, to curb spending and borrowing, or to raise taxes.
These lenders, China in the lead, are using dollars to invest widely around the world in commodities and other long-term supplies.
While the U.S. borrows, China lends and invests, a long-term recipe for changed power relations in the world.
What adds to the dangerous imbalances in the world economy is the refusal of the Chinese authorities to allow their currency to float freely. The Chinese manage their currency, while other countries allow theirs to float, so that the Chinese yuan remains artificially low and Chinese exports are more advantageously priced.
Given the unwillingness and/or inability of Americans to face hard choices, they will be tempted to make others pay the price, which will mean accepting a much lower dollar and allowing inflation to rise, so that the foreigners holding U.S. dollars will have a depreciated asset.
The Americans did this once before, and it seems at least probable, if not certain, that they will do it again. Fearing this option, holders of U.S. dollars will be tempted to convert them to another currency, dump them, or, at the very least, accumulate fewer of them.
Alas, the fiscal imbalances of the United States will weigh on the world economy, with uncertainties for all others, until that country demonstrates a willingness and ability to come to grips with itself."
Where's the ice cream bucket??
