Higher debt limit for the future economic growth

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What are the challenges that the U.S. economy will be faced with given a higher debt limit for the future economic growth?

Our national debt, currently at $19.9 trillion (US Debt Clock, 2016) is the highest of any single country in the world.  "It runs neck and neck with that of the European Union, which is an economic union of 28 countries." (Amadeo, 2016, Par. 2).  Malpass suggested, in his article, that we need to: let the interest rates rise, limit our national debt ceiling, limit yen ceiling, downsize government, and liberalize trade in order to achieve faster global growth (Malpass, 2014).  Granted that Malpass was talking about downsize European governments in his article; however, the same reasons for downsizing government to lower government expenditures can be applied here in our own country.  We need to take an objective review on our own government's operation to identify and stop the most ineffective speeding programs and stop the internal bleeding by implement programs designed to reduce our national debt.

An article written by Larry Swede referred to a recent study of debt-to-GDP ratios of advance economies from 1800 to 2011, conducted by Professors Carmen Reinhart, Kenneth S. Rogoff and economist Vincent Reinhart, have shown that high level of public debt have been associated with lower growth and the period of low growth will last an average of 23 years.  The tipping point is when the debt-to-GDP ratio exceeds 90% for at least five years.  The U.S. has passed this point since 2010.  The article further explained that high level of public debt can lead to a higher risk premium; which, in turn, has negative implications for investment as well as for consumption of durable goods and other interest-sensitive sector, such as housing (Swedroe, 2012).  An article by Kimberly Amadeo explained how did the U.S. acquire such huge debt, and the risks associated with our national debt.  First, the debt is an accumulation of Federal budget deficits, so government issued Treasury bonds to investors, businesses and foreign countries.  To this date, our government continues its deficit budget spending pattern and unless we change this pattern, our national debt will continue to grow.  Second, China and Japan are the largest creditors of the U.S.  Eventually, as our national debt increases, the credit risk premium also increases, eventually the interest rates on these Treasury notes will reach a point where U.S. is no longer able to service its debts and we may become the next Greece.  Third, the U.S. has borrowed from the Social Security Trust Fund at zero interest rates to help keep the Treasury Bond interest rates low to allow for more debt financing.  As the baby boomers started to retire, the demand on the Social Security has increased and the government needs to payback these borrowed funds by the only government can - increased taxes; which will slow down economic growth.  If the debt holders, such as China and Japan, demand larger interest payments to compensate for a perceived increased credit risk, the U.S. will have to pay an unexpected huge increase in interest payments, which will have devastating impact on our economy (Amadeo, 2016).

Therefore, a higher national debt will result in increased taxes, increased interest rates, and reduced social security benefits; as well as negatively impact on the investment market, the consumption of durable goods, and the housing market.  In the worst-case scenario, it may reduce the credit rating of the U.S. Treasury Bonds on the market; which may lead to the devaluation of the U.S. dollar.

What would happen to GDP, the unemployment rate and the inflation rate if there is a decline in global growth?

Much of the low-cost consumer products in the U.S. are from foreign imports; and many U.S. businesses have manufacturing facilities in foreign countries.  This interwoven markets of goods and materials, import and export, and financial investments has tied a close knot between the U.S. economy and the global economy.  Therefore, a change in the global growth will certainly affect the economic conditions in the U.S.  The GDP, as explained by Amacher & Pate, is the sum of consumption spending by households (C), investment spending by businesses (I), purchases of goods and services by government (G), and spending by the foreign sector, which is usually grouping the exports and imports together called "net exports" of goods and services" (X-M). (Amacher & Pate, 2012).

A recent article in CBS Moneywatch reported warnings that we should not let the currently low unemployment rate of 4.9% fell us into a misplaced optimism on our current state of economy.  The article pointed to a deceleration in China is already taking a toll on the American economy and threatening our economic recovery.  The decline in the global growth has already set off many warnings in the investment market.  In February, with 90 percent of the S&P 500 having reported their 4th quarter 2015 results, FacSet have reported that earnings for the period are down 3.6%, which is the largest profit down turn since 2009.  Private forecasters are reducing their 2016 estimates for U.S. growth to 2 percent, a decrease from the already low growth of 2.4 percent over the previous two years.  The Organization for Economic Cooperation and Development has already downgraded its forecast this year, The group's chief economist warned "the global growth prospects have practically flat-lined." Many economists believes that we may experience years of "secular stagnation." (Sherter, 2016).  Another economic report released by economists at Wells Fargo Securities Group in August stated that "American exports are highly sensitive to foreign economy and the U.S. industrial products (IP) and global IP are highly correlated.  A one-percent decline in the global IP shares 0.3-percent point from U.S. GDP growth, especially when GDP growth in the U.S. is already sluggish.  Slower GDP growth could in turn dampen hiring." (Bryson & House, 2016).

Therefore, although our unemployment rate is currently at a low 4.9%, a decline in global growth can cause a decline in GDP and cause an increase in the unemployment rate, and can trigger a full-blown recession.

Reference no: EM131298591

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