Money is getting tight in the USA. U.S. Treasury Secretary Janet Yellen is issuing an urgent warning that the U.S. government is approaching insolvency. This is something that could trigger a global financial crisis.
Currently, the world’s largest economy is only allowed to borrow a maximum of $28.5 trillion. That’s a lot of money, but the U.S. exhausted this limit some time ago. Therefore, a last-minute increase in the debt ceiling by Congress is necessary to avert a default on its debt.
In an opinion piece in the Wall Street Journal, Yellen wrote that if the U.S. could not meet its obligations, it would trigger a historic financial crisis. “We would emerge from this crisis as a permanently weakened nation.”
U.S. creditworthiness has been a strategic advantage so far, she said, adding that it would be “irresponsible” to put that at risk. Especially so as the economy and labor market are still recovering from the effects of the pandemic.
So Far, No Agreement in Congress. Tremors Continue
Yellen issued an initial warning about the debt ceiling in July. So far Republicans and Democrats have been unable to reach an agreement on raising the limit. The Democrats control the House of Representatives and the White House, but in the Senate they depend on Republican support.
By repeating the Treasury Department’s earlier warning, Yellen is hoping to bring more urgency to the issue. She emphasized the severe consequences that a default would have. A crisis triggered by a U.S. default would worsen the economic damage from the ongoing Corona pandemic, roiling markets and plunging the U.S. economy into recession. Millions of jobs would be lost, and interest rates would rise permanently.
Yellen did not give a specific date for a possible default, but let slip that it could be as early as October, when the Treasury is expected to exhaust its payment reserves and extraordinary borrowing capacity under the $28.4 trillion limit.
Germany Also in Debt Quagmire
If this were indeed to happen, the effects would be felt around the globe, especially since Germany’s national budget is also worryingly deep in the red. The financial rescue packages to contain the economic consequences of the COVID-19 pandemic and the associated tax shortfalls have caused Germany’s debt mountain to grow enormously.
“The measures to combat the COVID-19 pandemic has led to the second largest deficit in the first half of the year since German unification in 1991,” commented Stefan Hauf of the Federal Statistical Office. The debt level has grown from 60% to 71% of GDP.
Compared to the U.S., this is admittedly low, because on the other side of the Atlantic, the debt is likely to exceed economic output this year, i.e., the U.S.’s debt-to-GDP ratio will be over 100 percent.
However, there is no question that Germany (like the USA) has a debt problem. That is why the European Central Bank, for example, continues to maintain its ultra-loose monetary policy. Higher interest rates would ultimately mean that debt servicing would also become more expensive. Some EU countries would then be threatened with default very quickly.
Basically, this global debt quagmire concerns us all, because debt – as well as zero and negative interest rates – threaten the assets of every individual. That’s why it’s important to develop your own strategy, independent of politics and governments, to protect and grow your wealth.