Published on June 5, 2020 in the Rochester Business Journal

In the relatively short period from the Great Recession of 2008/2009 to the pre-COVID-19 period ending February 12, 2020, when the Dow Jones Industrial Average reached an all-time high of 29,569, our national debt increased from approximately eight to twenty-three trillion dollars. In the wake of the COVID-19 crisis, many have speculated it will take tens of trillions of additional dollars (in one form or another), to prevent a more significant Depression in the U.S., and to bring our country (and the rest of the world) back to a more solid economic footing. Where will all this money come from and what will the long-term impact be on U.S. inflation and interest rates?

When we talk about raising tens of trillions of additional dollars to provide relief to the U.S. economy, it seems the logical funding mechanisms are to raise taxes, cut expenses, print more money, or simply borrow more money. In the first instance, raising taxes has never been very popular; in fact, some might call it political suicide. In the second instance, we’ve never been particularly good at cutting expenses, especially when almost half of the U.S.’s line item expenses relate to programs like Medicare and Social Security. I suppose we could just print more money, much the same as what the Federal Reserve Bank has been engaged in with its quantitative easing programs - essentially creating dollars and buying up all kinds of debt in the market, to provide liquidity to an otherwise fragile system - but how long can that realistically continue? At the end of the day, printing more money in the midst of a stagnant or slow-growing economy can only add to inflationary pressures, as more and more dollars are put into circulation, to represent the same approximate level of underlying goods and services. Printing more money may be part of the near-term solution to our immediate funding needs, but the inflationary fallout we’d face over a longer period of time is sure to be problematic.

The last source of funding mentioned above is borrowing, and the U.S. is certainly good at it. For years now, our National debt has increased, the interest on that debt has increased, the interest on that debt as a percentage of GDP has increased, and we’ve become a greater credit risk. Look no further than Standard & Poor’s downgrade of our sovereign debt rating from AAA to AA+ back in August 2011, and recognize that future downgrades may well be in store. The problem here is not that creditor nations like China and Japan will stop lending to us; indeed, most of the time, we turn around and use the money we borrow to buy more of their goods and services. The problem is, as the burden of our debt continues to grow, the credit risk associated with lending to us grows. At some point, therefore, creditors should demand additional compensation for this added credit risk, likely by charging us higher interest rates on the money that we borrow.

Higher inflation and higher interest rates certainly don’t seem to fit with the environment we’ve witnessed since the Great Recession. If anything, rates have come down and inflation has been well contained. Throughout this period and presumably going forward (for as long as it’s able to anyway), the Federal Government has been steadfast in doing whatever it takes to prop up the economy, by throwing massive amounts of fiscal and monetary stimulus at our problems, whenever they arise. How long can this continue though? When is enough, enough? We’re not the only ones to blame either. Most of the rest of the world has pursued similar fiscal and monetary policies, effectively solving today’s problems by taking from tomorrow.

It may not be this year, or next year, or even the year after but, rest assured, we won’t be able to kick the can down the road forever. The looming burdens of Medicare and Social Security insolvency (approx. seven years and twenty years off, respectively), will require tens of trillions of additional dollars, above and beyond the crisis we’re dealing with today. If we do nothing to change the path we’re on, no matter who’s in charge, we’re destined to see a reversion to the mean, where today’s low inflation and interest rate environments move meaningfully higher. If we remain complacent, we’ll have to atone for the easy fiscal and monetary policies being deployed today. If we continue doing business as usual, there will certainly be a day of reckoning.

To see his column in the RBJ, click here.