The Us Debt Crisis

8/3/2019 The Us Debt Crisis

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THE US DEBT CRISIS: IMPLICATIONS FORGLOBAL ECONOMY WITH SPECIAL

REFERENCE TO INDIA

PROF(Dr.) SK LAROIYAAMITY BUSINESS SCHOOL

AMITY UNIVERSITYUTTAR PRADESH


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What is the US debt crisis?

Since 1917, the US congress has stipulated that there has to be statutory limit on USpublic debt( debt of federal government)This figure has been raised periodically and stands at $ 14.3 trillion (95% of US GDP)

The US has breached this limit on May 16, 2011

And if Congress did not raise it further by Aug.2, 2011, the country would have run outof money to pay interest and principal on treasury bonds , as well as other socialsecurity and medicare benefits

Leading to unprecedented repercussions on US economy and the world economy

27 April 2012 Dr. SK Laroiya ABS 2


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Aug. 2,2011-

Compromise deal hammered between the democratsand republicans to resolve the US Debt crisis

What is the deal?

To raise the debt ceiling from the current $ 14.29

trillion by about $2.4 trillionSpending cuts about $2.4 trillion over 10 years



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What is the debt ceiling exactly?



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It's a cap set by Congress on the amount of debt thefederal government can legally borrow

The cap applies to debt owed to the public (i.e.,anyone who buys U.S. bonds) plus debt owed tofederal government trust funds such as those forSocial Security and Medicare



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The first limit was set in 1917 and set at $11.5 billion

Previously, Congress had to sign off every time the

federal government issued debt



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How high is the debt limit right now?



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The ceiling is currently set at $14.294 trillionUS's accrued debt hit that mark on the morning ofMay 16



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But by taking various extraordinary measures likesuspending investments in federal retirement funds,Geithner, the Treasury Secretary was able to bring

total debt down enough to allow the government tocontinue borrowing until Aug. 2.

By the end of trade on May 17, total debt subject to

the limit was a mere $25 million shy of the official cap-- or $14,293,975,000,000



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How is the ceiling determined ?



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They don't admit it, but lawmakers tacitly agree toraise the debt ceiling every time they vote for aspending hike or tax cut



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So in reality arguing over the debt ceiling is essentially arguingover whether to pay the bills the US has already incurred

And politics, of course, permeates the whole debate

Lawmakers who want to make hay of the issue for political gainmay push for a small increase so the debate comes up again

soonOthers may want a bigger increase so they don't have to revisitthe issue for a while



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How many times has the ceiling been raised?



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By the Treasury Department's count, Congress hasacted 78 times since 1960 to raise, extend or alter thedefinition of the debt limit 49 times underRepublican presidents, and 29 times underDemocratic presidents

In 1940, the debt limit was about $43 billion. It wasraised as high as $300 billion during World War II

The debt limit has been increased 140 per cent since2000, when it was $6 trillion



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US debt limit since 1940



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Debt Limit as a Percentage of GDP



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Why does Congress even bother to set a debt limit?



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In theory, the limit is supposed to help Congresscontrol spending

In reality, it doesn't

Every time the debt limit needs to be raised,

lawmakers and the US president are forced to takestock of the country's fiscal direction, which isn't a badthing necessarily



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What would have happened if Congress had not

raised the debt ceiling by Aug. 2?



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Treasury would not have authority to borrow any moremoney

And that can be a problem since the governmentborrows to make up the difference between what itspends and what it takes in

It uses that borrowed money to help fund operationsand pay creditors



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If Congress does not raise the debt ceiling, the U.S.Treasury will run out of cash reserves to pay forobligations like Social Security, Medicare and

Medicaid, and defence contracts

The chart below shows the amount of the nationscash reserves and estimates for when it would haverun out if the debt ceiling was not raised



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May 16As the U.S. reached its debt limit, the U.S. Treasury instituted what SecretaryGeithner called extraordinary measures to provide $232 billion while a budget deal was negotiated

Aug. 3 Obama administration estimate for when it will exhaust its borrowingauthority

Aug. 10 Estimate by many Wall Street and Washington analysts.



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Geithner's ( The Treasury Secretary) critics say hecould have prevented default by simply paying theinterest due to bondholders.

But since average spending -- minus interest --outpaces revenue by about $118 billion a month,Geithner wouldn't have been be able to pay all thecountry's bills.

That means he would have to pick and choose who topay and who to put off every day



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Ultimately,had the lawmakers failed to raise the ceiling, they would have been left withtwo choices,

both awful

They could either cut spending or raise taxes by several hundred billiondollars just to get through Sept. 30, which is the end of the fiscal year.Or

they could acknowledge that the country would be unable to pay what itowes in full and the United States could effectively default on some of itsobligations



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The first option

would be impossible to execute without seriouseconomic repercussions

And the second option

could have crippled the economy and send worldmarkets into a tailspin



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A default could hurt U.S. bonds, the dollar andinvestors' portfolios



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Will reaching the debt ceiling for good cause a governmentshutdown?



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Not technicallyA government shutdown occurs if lawmakers fail to appropriatemoney for federal agencies and programs

By contrast, if the debt ceiling is breached, Uncle Sam would stillhave revenue coming in that could be used to fund thegovernment

But if Geithner is coming up short by $118 billion every month,and lawmakers just decide to cut spending by that amount, thatcould effectively mean a partial government shutdown



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Why is US Facing Debt Crisis?



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In one sense the US is facing a debt crisis

The level of government borrowing has risen sharplyas a % of GDP (95), and given current spendingcommitments the forecast for borrowing is to continueto grow



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http://www.economicshelp.org/blog/wp-content/uploads/2011/07/800px-Federal_debt_to_GDP_-_2000_to_2010.png


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Nevertheless, despite disputes over raising debtceiling, the US doesnt currently face a crisis likeGreece or other Euro countries.

Bond yields on US debt are still low (and have fallensince start of recession in 2008)



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1. Cyclical Factors / Discretionary spending

The recession and financial crisis of 2008 led to a fall in taxrevenues

Falling bonuses led to lower income tax

There was also a fall in stamp duty as tax revenue from housesales declined

Since the recovery has been weak, there has been no sign ofthese tax revenues returning



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2. Unemployment spending

US unemployment benefits are relatively low, but,even so, the large rise in unemployment has triggeredan increase in social security related payments



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3. Health Care Costs

The biggest single factor in explaining the rise in US publicsector spending is health care costs

In the 1970s, US government spending on health care was 7%of GDP in 2011; it is now 15% of GDP

The numbers of people enrolled in Medicare (health benefits tothose over 65) is predicted to increase from 45m in 2011 to 60min 2021



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In the US, the fragmentary system of private provisionand government benefits means that the government endup paying for expensive treatment for many people

The increase in health costs is being exacerbated by anageing population who tend to need more treatment

Also medical advances mean there are now a muchgreater diversity of (expensive) medical treatments



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http://www.economicshelp.org/blog/wp-content/uploads/2011/07/800px-GAO_Slide.png


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4. Pensions.The ageing population also puts pressure on government spendingon pensionsCurrently the % of the population over 65 years old is 13 per cent.

This is expected to reach about 20 per cent by 2050

This is actually much lower than many other Western countries. But,still represents an increase in the pension burden

Health care, pensions and other entitlement spending accounts for60% of government spending, but it is politically difficult to tackle thisas people feel an entitlement to pensions and health care



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5. Reluctance to Increase Taxes

The US has one of the lowest effective rates ofcorporation tax and income tax in the OECD,

but more than anywhere else there is a strong politicalreluctance to increase taxes

The Republican party remain convinced that any taxincrease would undermine the US economy



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6. Defence Spending

Two wars in the 1990s and 2000s have increased theUS spending on military

Discretionary spending, which includes defence roseto 9.3% last year. The highest since the late 1980s.



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Arguments Over Debt Ceiling

Usually Congress agree to allow debt ceiling to rise.But, currently the Republican party is demandingimprovements to budget come from spending cutsrather than tax increases, this political impasse is

making markets more nervous over buying US bonds



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Overall

The problem is that the US faces demographic factors which putmore pressure on government spending.

But, there is a reluctance to either increase taxes and / or cutspending in areas which are claiming the biggest increase.

As a result spending is often cut in easiest ways such ascancelling capital investment projects (high speed rail) orreducing benefits which hurts the poorest



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Likely impact of on global economy



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1.

AAA Rating in trouble ?

S&P rating for US down to AAWhat about other countries in Europe?Implications-Bond market

Higher borrowing costExiting of foreign funds from US treasury



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With a downgrade, the US government has to pay $2billion more interest for every $1 trillion debt andinvestors holding US treasury bills will collectively losemore than $50 billion

Morgan Stanley Report



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Moodys and Fitch ratings have affirmed as of now ,AAA rating for the US but have warned thatdowngrades were possible

if

US fails to enact debt reduction measures

and US economy weakens



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Chinese Credit Rating Agency- DAGONG-downgraded US sovereign rating ( Aug. 3)



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RATING OUTLOOK 10-YEAR GOVERNMENT BOND YIELD

Switzerland AAA Stable 1.5%Hong Kong AAA Stable 2.3Sweden AAA Stable 2.7

Germany AAA Stable 2.7Canada AAA Stable 2.9United States AA Watch Neg. 3.0 BY S&PDenmark AAA Stable 3.0Britain AAA Stable 3.1Netherlands AAA Stable 3.1Finland AAA Stable 3.1Norway AAA Stable 3.2Austria AAA Stable 3.3

France AAA Stable 3.3Australia AAA Stable 4.9Belgium AA+ Negative 4.3%New Zealand AA+ Negative 5.1Slovenia AA Negative 4.3%Spain AA Negative 6.0Japan AA Negative 1.1%China AA Stable 4.1Slovak Republic A+ Stable 4.2%Italy A+ Negative 5.6

Czech Republic A Positive 3.9%South Korea A Stable 4.2Israel A Stable 5.2Malaysia A Stable 3.9%Poland A Stable 5.8

Sources: Standard & Poors; Bloomberg

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TOP FOREIGN HOLDERS OF US


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TOP FOREIGN HOLDERS OF USTREASURY SECURITIES

The share of US public debt held by foreign governmentshas risen steadily in the last quarter century up from13% in 1988 to 25% in 2007 to nearly 50% today

As on January 2011, foreigners held roughly $4.45 trillionworth of US debt- which equates to approximately 47% of

the $9.5 trillion worth of Federal Debt in public hands and32% of the $14.3 trillion in total US Debt



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With $ 1.154 trillion worth of US securities, the CentralBank of Mainland China , is the single largest

overseas holder of US public Debt followed by Japan

India holds $40.6 billion of US public Debt



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RANK COUNTRY US DEBT (BILLION US $) AS ON JAN. 2011- DEPTT. OF TRESURY

1 MAIN LAND CHINA 1154.7

2 JAPAN 885.9

3 UK 278.4

4 OIL EXPORTERS 215.45 BRAZIL 197.6

6 CARIB. BANKING COUNTRIES 166.5

7 TAIWAN 157.2

8 RUSSIA 139.3

9 HONGKONG 128.1

10 SWITZERLAND 107.6

11 CANADA 86.6

12 LUXEMBURG 83.0

13 GERMANY 61.1

14 SINGAPORE 57.8

15 THAILAND 56.4

16 IRELAND 44.4

17 INDIA 40.6

18 MEXICO 34.4

19 TURKEY 32.9

20 BELGIUM 32.1

TOTAL ( ALL HOLDERS) $ 4453.4



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1154.7

885.9

278.4

215.4 197.6166.5 157.2 139.3 128.1 107.6

86.6 8361.1 57.8 56.4 44.4 40.6 34.4 32.9 32.1

0

200

400

600

800

1000

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US DEBT (IN BILLION $)

Series1



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2.

Impact of fiscal correction (as per the deal) in the US

- Low consumption

- Sluggish investment

- imports

have serious repercussions on the global economy



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3. US stock market

4.Weak dollar

5. Impact on international monetary system



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Is there any impact on India?



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In the short and medium term, the impact on the Indiais likely to be marginal

Why?



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1. Exports of IT and IT related services

2. FDI inflows

3. Stock market

4. Exchange rate

5. Oil prices

But we need to be on guard



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Are there few

Lesson(s)

that we can learn from US debt crisis ?

Documents

The Us Debt Crisis