Why Debt Doesn’t Doom the American Economy

With the U.S. government continuously choosing to borrow money from foreign nations, it might seem as though generations of future Americans are destined to suffer beneath the enormous mountain of debt that has not-so-steadily accumulated. Presently, the U.S. debt to GDP ratio stands at 110% – a figure that is well above the 77% at which point creditor nations start to worry, according to the World Bank. However, Zoomers and beyond need not fret, for it is incredibly unlikely that the national debt will wreck the U.S. economy, even though it is rapidly growing with no sign of slowing down any time soon.

There are several reasons for why this is the case, but the main one is that the U.S. is not under any pressure to pay off the national debt immediately. This is because creditor nations are not concerned with the fact that the U.S. has taken out so much money in loans, and still remain very confident that the U.S. will eventually pay all its debt back. The fact that there is no immediate reason for the U.S. to begin paying off its debt has made the American government comfortable with taking out more money before repaying its loans, and this will not change until creditor nations grow skittish and start having doubts.

Furthermore on this point, creditor nations have more to gain than they have to lose by loaning money to the American government. Not only do they have faith that the U.S. will pay back the money they owe in full, but they also get the benefit of being paid interest on top of the amount of the initial loan. And even if we take these benefits out of the equation all together, creditor nations still have no reason to stop lending the U.S. money, because the U.S. will not default on its debt. The reason being that the American legislative branch, which controls the budget, knows full well that defaulting on its debt would shake faith in America in the financial markets. This would be a devastating blow to the U.S.’s major economic presence on the world-stage, and so Congress would be very unlikely to take this step.

This brings us to another concern – how does the American economy not collapse when U.S. Federal Reserve continues to print money with no end in sight? The answer to this is that the U.S. dollar is the reserve currency for all other countries. It took the place of the gold standard, and today it anchors the value of foreign currencies. For this reason, international business transactions are completed by using the U.S. dollar. As a result, there is an infinite demand for U.S. debt. Because banks and businesses want to safeguard their wealth, they must hold the world’s reserve currency (the U.S. dollar), and so the Federal Reserve does not have to worry about potentially printing too much money.

Some claim that the American economy will fail because it will be replaced as the world’s reserve currency, perhaps by the yuan, the euro, or maybe even a cyber-currency like bitcoin. The reasoning behind this is that the U.S. dollar will decline in value in relation to these currencies, and therefore will no longer be the preferred reserve currency. However, this is unlikely because no other form of currency matches the U.S. dollar’s high rates of circulation – making it near impossible for them to replace the dollar. 

Another point to keep in mind is that because the U.S. prints its own money, it controls its currency. This means that it can handle a much higher debt-to-GDP ratio than many other countries can – so that 110% we discussed earlier is no cause for immediate concern. Skeptics who continue to doubt the ability of the U.S. economy to manage such high ratios of debt-to-GDP need look no farther than Japan to see the truth of this. Japan is another country that prints its own money, and thus controls its own currency, and its debt-to-GDP ratio is over 200%! This is also not a recent development, but rather has been the case for years. And yet, despite having such a high ratio of debt-to-GDP, Japan’s economy remains strong and has not shown any signs of impending doom – indicating that there’s no reason to believe that the U.S. economy will react any differently as its ratio grows.

Of course, there’s no guarantee that the U.S. economy will not fail. However, it is a highly unlikely outcome, and not one that we should anticipate or chew our nails over any time soon.

 

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