The fiscal situation in Greece has brought new attention to the fiscal situations of countries around the world, including the United States. We have written several times that the U.S. budget deficit and overall debt load have passed the point of no return, whereby further borrowing to stimulate growth or cutting the budget deficit through austerity measures could threaten the U.S. credit standing in global markets. Recently, two noteworthy events have transpired which support our thesis. First, Alan Greenspan's op-ed in the Wall Street Journal, titled "U.S. Debt and the Greece Analogy," reflects a growing concern that the United States' borrowing needs will lead to a dramatic rise in long-term interest rates. Second, the Senate voted against extended unemployment benefits, once considered a rubber-stamp process, which exemplifies voters' increasingly negative sentiment towards Government deficit spending.
Figure 1 shows an arrow pointing to debt/GDP of approximately 170% in 1929. Although, a record high at the time, debt/GDP skyrocketed to approximately 260% during the Great Depression as GDP imploded and the government borrowed money to stimulate the economy. Today's situation is even graver.
Figure 1. Total Credit Market Debt As A Percent Of U.S. Annual GDP
Source: Comstock Funds, Ned Davis Research
The ECRI Weekly Leading Index (Figure 2) shows an increasing chance for economic retrenchment, which taken alone would lead to a coming spike in Debt/GDP similar to that of the 1930s.
Figure 2. Leading Indicator Continues To Fall Further In To Negative Terrain
In the 1930s, U.S. Government debt levels were much lower so the Government could stimulate growth through deficit spending. Yet today, additional Government spending, even if markets were to allow it, would lead to unsustainably high debt/GDP and ultimately to market scrutiny. On the other hand, growing public concern over the budget deficit is making it difficult for Congress to pass additional stimulus measures, which will negatively impact consumer sentiment and GDP. Therefore, with either more spending or spending cuts, credit metrics will deteriorate and the Government will have few options to support the economy.
While it is commonly accepted that increased borrowing helps an economy grow during an expansion and stabilize during a recession, the U.S. debt/GDP has become so high that citizens, investors and politicians around the globe are becoming resistant to its potential expansion. Furthermore, with the economy facing the threat of a retrenchment, the Government's debt predicament will become more severe than even Alan Greenspan is projecting.