It is now conventional wisdom that the U.S. faces an acute fiscal calamity. America's problems are severe: a deficit that is more than 10% of GDP and total debt that is more than 70% of GDP. But all evidence suggests that the U.S. does not face an immediate crisis. Take a look at the simplest indicator: the day that Standard & Poor's raised its now famous warnings, the markets decided to lower America's borrowing costs, and the dollar rose against its principal alternative, the euro. In fact, the real problem for America may well be that it does not face a short-term crisis.
Around the world, people, countries and companies are looking for safe, liquid investments. And the market's judgment is that the safest such investment is Uncle Sam's debt. We all know the medium- and long-term problem with U.S. debt. It's been discussed worldwide over the past few years. And yet during that period, America's borrowing costs have fallen. Markets are still willing to lend Washington more money at astonishingly low rates. The cost of servicing America's debt today is actually lower than it was in 1998, at the height of the Clinton boom. Why? Even though the U.S.'s debt now is much greater, interest rates are much lower, and the result is a lower bill.
Of course, markets can change their views, but for an immediate shift to take place, there has to be a more attractive alternative to U.S. Treasury bills. Imagine that you are the head of China's central bank. You need to invest tens of billions of dollars every year in something secure and liquid so you can get your money back when you need it. There are few good options. You could invest in European bonds, but you've been spooked by the recent series of Euro-crises. German officials have predicted that Greece will default, which, if it happens, could precipitate a new round of panic. It is fair to ask, Will the euro in its current form even be around 10 years from now? Reflecting this uncertainty, borrowing costs for small European countries have risen sharply.
Then there are Japanese bonds. You could invest in those, but Japan has the worst balance sheet of the major countries, with debt at 200% of GDP, slow growth and a rapidly aging population. Plus, you (the Chinese) hate the Japanese, have never forgiven them for World War II and are not likely to do anything to shore up the yen as a global currency. You could buy real assets mines, oil fields, buildings but they are illiquid investments that are difficult to sell quickly, and anyway, even if you bought dozens of them, you would still have tens of billions of dollars left over to put somewhere. You could invest in Chinese bonds, but that would drive up the value of China's currency and make exports more expensive, which would mean fewer jobs at China's manufacturing companies. In short, Beijing buys Treasury bills not out of any love for America but for good, practical reasons.
The short-term news about the U.S. economy is positive. April's IMF report on global growth confirms that the U.S. is likely to be the fastest growing of the world's advanced economies, behind China and India but well ahead of Europe. The U.S. is the only advanced economy whose GDP is now back to precrisis levels. American consumers are saving at a higher rate than they have in a decade and are also beginning to spend. American companies have $2 trillion in cash on their balance sheets. Of course, problems remain, but the American economy is finally moving again.
In fact, the real problem is that this short-term good news means Washington isn't really acting as if it faces a crisis, no matter the rhetoric. Democrats are still clinging to entitlement programs with no talk of real cost cutting, though the current system is clearly unaffordable. Republicans pretend the U.S. is on the brink of losing the world's trust, but they don't really believe that. If they did, they would not play politics with the vote to raise the country's debt ceiling; they would also agree to raise taxes or just repeal the Bush-era tax cuts. That one step would stabilize America's finances for a decade (though the entitlement system would still need fundamental reform for the long run). Other than the Gang of Six in the Senate, people are still pushing their ideologies rather than fixing the problem. The great danger is that once again, the American economy will outperform expectations and relieve politicians from having to make hard choices about entitlements and taxes. But it will only postpone the day of reckoning and make the crash more painful.