Based on the costs of fiscal stimulus and the bank bailout, the US’ federal government debt to gross domestic product (GDP) ratio is heading much higher. It may equal Hungary’s current ratio—which skyrocketed due to profligate spending and remnants of centrally planned waste—by 2011. While other factors are important, that suggests the credit quality of currently top-rated US treasury debt may trend down more towards the quality of Hungary’s government debt, which is nearer the bottom of the investment-grade pecking order. That’s not a complete disaster, but it means treasurys won’t really be a safe-haven investment either.
Assuming deficit projections by the Congressional Budget Office (CBO) for the 2009 and 2010 fiscal years are right, and adding in the cost of the stimulus plan, the bank rescue plan and borrowing costs, US public debt would rise from 41% of GDP in September 2008 to about 70% of GDP in September 2011—roughly in line with Hungary’s December 2008 ratio.
Profligate spending? Hungarian Prime Minister Ferenc Gyurcsany. Laszlo Balogh / Reuters
After 2011, the US debt-to-GDP ratio is expected to decline again. The CBO projects deficits of less than 2% of GDP after 2012, and the capital injected into the banking system under the government’s bailout plans should start to produce some returns for taxpayers around that time.
There are considerable downside risks. The CBO projections are based on optimistic assumptions: that growth averages 4% annually between 2011 and 2014, that the Bush tax cuts and Alternative Minimum Tax relief all expire in December 2010 and that discretionary spending only increases in line with inflation after 2010.
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The falling debt scenario also assumes that none of the expenditures under the stimulus plan migrates into annual spending after 2010. Should the recession deepen, or persist beyond the end of 2010, higher budget deficits could become entrenched. Finally, the projection assumes US interest rates remain low. With treasury bond maturities now averaging only 48 months, higher interest rates would rapidly feed into higher borrowing costs and budget deficits.
“No European government has done anything as bone-headed as we have,” said Hungarian Prime Minister Ferenc Gyurcsany of his country’s fiscal policy in May 2006. By 2012, US policymakers may be echoing him.