The IMF warns of US debt, driven by high income inequality and absorbing global excess savings; Half of Dow firms pose lower default risk than federal government.

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The IMF’s stark warning about the US’s ballooning debt underscores a far graver issue than mere fiscal imbalance. To truly tackle its debt problem, the US must confront two intertwined challenges: sky-high income inequality and the overwhelming influx of global excess savings. The US economy is compelled to absorb an immense amount of savings, a situation exacerbated by weak domestic demand.

One theoretical solution is higher US investment, but the scale required is unmanageable. Consequently, other adjustments are inevitable. The stark options include higher unemployment, increased household borrowing to stimulate consumption, or a larger fiscal deficit. The US’s surging fiscal debt becomes the least damaging option among these undesirable alternatives. Higher unemployment would devastate families and communities, while escalating household debt could plunge millions into financial turmoil.

Addressing the debt crisis effectively necessitates tackling both income inequality and foreign capital inflows. In an economy like the US, where investment is limited by demand rather than scarce savings, rising inequality must be balanced by either increased unemployment or mounting debt. The existing economic framework, which allows economies with excess savings to find unfettered access to foreign assets, only intensifies these problems. Keynes and Harry Dexter White recognized the irrationality of this system, yet by the early 1980s, the US had dismantled all capital controls.

It’s not just the US facing this dilemma. The UK, Canada, and Australia similarly absorb 60-80% of global surpluses, contradicting expectations about capital flows. The gravity of this situation is highlighted by the fact that half the companies in the Dow Jones Industrial Average now pose a lower default risk than the federal government.

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Inflation-adjusted US government spending since 2020 has surpassed the combined expenditures of World War I, World War II, and the period from 1970 to 1990. This unprecedented level of spending is alarming for the long-term health of the economy. Everyone, it seems, except the US government, grasps the severity of this crisis. The path forward demands not just fiscal prudence but a profound restructuring of both domestic economic policies and the global financial system.

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