## America’s Perilous Fiscal Path

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### Background and recent developments
- In 1990, US public debt stood at 43 percent of gross national product (GNP).
- In July 2025, US debt was approaching 100 percent of gross domestic product (GDP).
- In 1990, the Congressional Budget Office forecast deficits would fall from 4.0 percent to 1.8 percent of GNP over five years.
- In July 2025, unemployment was just over 4 percent.
- Deficits in July 2025 were projected to rise from 5.5 percent to 5.9 percent of GDP by 2030.
- In July 2025, the One Big Beautiful Bill Act was passed at a cost of about $2 trillion over the next five years.

### Major causes of rising debt
- Two major economic shocks:
  - The global financial crisis.
  - The COVID-19 pandemic.
- Effects of these shocks:
  - Revenues declined and spending rose automatically as the economy weakened.
  - Large fiscal stimulus packages increased government borrowing.
- Demographic pressures:
  - Continued expansion of old-age entitlements is pushing spending even higher.
- Structural differences from post–World War II:
  - No large peace dividend from reduced defense spending is expected to rescue public finances.

### Political factors and polarization
- Bipartisan agreement historically central to fiscal consolidation (example: 1990 agreement; 2010 Simpson-Bowles Commission).
- Current polarization:
  - Democrats favor tax increases; Republicans oppose them.
  - Republicans favor spending cuts; Democrats oppose them.
  - With parties further apart, there is little prospect of a bipartisan solution akin to past efforts.
- Political incentives:
  - Cutting deficits provides no tangible short-term benefits to most voters.
  - Politicians avoid asking voters to pay higher taxes or accept reduced transfers/services.

### Observed effects and limits of alarm
- Empirical evidence confirms higher national debt increases interest rates, but:
  - Other factors pushed interest rates steadily lower until very recently.
  - From 2001 to 2021, as US debt-GDP more than tripled, debt service fell as a share of GDP from 2.0 percent to 1.5 percent.
  - The decline in interest rates more than offset the large debt increase during that period.
- Subtle economic damage already evident:
  - Increase in the US external imbalance.
  - Potential crowding out of productive domestic private investment.
- Risk of complacency:
  - Lack of observable short-term damage has reduced political urgency to act, even though debt service has begun growing sharply again.

### Fiscal trajectories: gradual versus sudden
- Gradual path:
  - National debt and interest rates continue to rise.
  - Debt service accounts for an ever-increasing share of government revenues, squeezing other spending.
  - Political opposition to reform might eventually weaken, enabling compromise.
  - Impending exhaustion of Social Security and Medicare trust funds, projected to occur within the next decade, could prompt action (tax increases, benefit cuts, or both) or lead to further borrowing to bail out the funds.
- Sudden path:
  - The current trajectory continues until it becomes too expensive to borrow.
  - Market access could be compromised if debt-GDP trajectories nearly double over the next three decades.
  - In an environment of widespread unsustainable debt among leading economies, the US may remain a safer haven for some time, providing a larger supply of assets world investors demand.

### Policy outlook and implications
- The US has a strong economy capable of accommodating tax and spending reforms to achieve fiscal sustainability.
- There is no shortage of reform ideas, but political realignment and restoration of bipartisan action are likely prerequisites for major consolidation.
- Near-term expectation:
  - A long, steady worsening of fiscal problems is more plausible without bipartisan agreement.

*Alan J. Auerbach, “America’s Perilous Fiscal Path,” F&D, March 2026.*

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_Source: https://www.imf.org/-/media/files/publications/fandd/article/2026/03/auerbach.pdf_