We've been hearing a lot recently about the country's rising deficits and debt, and some people are panicking. Should businesses be panicking? No, and here are three reasons why.
1. There's going to be a reckoning — we just don't know when
According to the Congressional Budget Office, our national debt is currently about 99 percent of GDP and will be 120 percent by 2034. Our total deficit this year is about 7 percent of GDP; by 2034, the CBO predicts that our deficit will be about the same level, but only if the American economy continues to hum along and no ccts of God get in the way. It’s a big “if.”
But the issue isn’t necessarily the size of our debt. It’s the interest we have to pay.
Currently, interest outlays are about 3.1 percent of GDP. But interest spending is projected to nearly double, to one-sixth of overall economic spending, accounting for as much as 4.1 percent of GDP by 2034. These are unprecedented levels, but let’s not forget that this is not as much a budgetary issue as a debt maintenance issue.
As long as the government can maintain these interest payments — even as they grow — the problem gets pushed out further and further into the future. At some point, there has to be a limit. But when will we reach that point? Five years? Twenty years? No one really knows.
U.S. markets are still strong, and will likely remain strong. Treasurys show little sign of losing their demand, given the safe harbor that the American economy provides. There’s no need to panic as long as the government can service the debt. But the money to pay interest has to come from somewhere, otherwise we’ll have to default, right?
2. The U.S. is not going to default on its debt because there are too many other options
Throughout history, a number of countries have defaulted on their debt. Spain defaulted multiple times during the 16th and 19th centuries. Greece defaulted as recently as 2015. After the fall of the Soviet Union, Russia defaulted. Germany did the same after the First World War. But these countries had few options other than to default. And unlike the U.S., most of their debt — as was the case in Greece — was owed to outsiders, whereas only about 24-30 percent of U.S. Treasurys are held by foreign countries. The U.S. has at least three options to stave off a default: cost cutting, increased taxation and simply printing more money.
A combination of austerity, increased taxation, public-sector reforms and currency deflation helped Canada, Sweden, New Zealand and Ireland avoid a debt default crisis over the past 50 years. The U.S. certainly has all of these options. Remember: it’s not a matter of eliminating the deficits. It’s a matter of bringing them back into a controllable, maintainable level.
But let’s face it: austerity and increased taxation in this very divided political environment is highly unlikely. It’s not impossible, but no one wants to see their programs cut. Unions and political interest groups are too strong. Politicians are too weak. Tax increases are not going to be acceptable. And few want to address entitlements such as Social Security, welfare and Medicaid for fear of upsetting those that benefit from these programs and losing votes.
The most likely scenario is that the federal government will turn to the Federal Reserve to borrow more and “print” more money in order to pay its obligations.
Greece was unable to do this because its economy is tied to the Euro. Neither Ireland, Canada or Sweden could attract more buyers for their bonds due to the size and limitations of their economies. But the U.S. is the biggest economy in the world. California’s GDP is the fifth largest in the world. Indiana’s economy is bigger than all of Norway. Our markets are enormous, our consumers spend voraciously and our resources are vast.
Even with all of our economic challenges, the U.S. remains the safest place in the world to invest. As long as bonds are available and priced right, investors will buy. And the U.S. government will print more money to pay the interest. But printing more money has big drawbacks.
3. Our new normal will be higher inflation and interest
As we’ve seen over the past few years, when the government spends trillions of dollars on stimulus and other “economic growth” programs, the economy can’t absorb it all and the excess money in the system creates an oversupply, which causes inflation. This is why today’s shopper now has to spend $137 to pay for $100 of groceries they could’ve bought a few years ago.
The Fed has targeted a 2 percent inflation rate and is currently holding interest rates at their highest levels in 20 years in an attempt to restrict too much money from entering the system. It’s working, to an extent, but the supply of money in the system is still at historical highs and inflation is still 50 percent above its target, at about 3 percent. This game will get harder to play as interest takes up more of the federal budget and the Fed must print even more money to satisfy our obligations. Interest rates will remain high in order to continue to attract investors and also to try and restrain money supply.
So where does this lead to? Higher inflation and higher interest rates.
What a business owner can expect going forward is increased levels of both. Our new normal will ultimately be anywhere between 5 and 10 percent for each. That will be the price we pay for unrestrained deficits. There will be challenges and many — particularly in lower income brackets — will likely suffer the most, as they always do, sadly.
Businesses, however, will need to pivot. Frequent price increases will be the norm. Investment in technologies to reduce headcount and overhead will be critical. Overseas and new markets will rise in value. Managers will get better at forecasting and minimizing wasteful activities. Borrowing decisions will be more data-driven and focused on return-on-investment by both businesses and their lenders. Startups will find their capital options restricted and more expensive.
What I’m telling my clients is to be aware that this situation is inevitable. Which is why it’s critical to build cash reserves now. The more cash they’ve saved, the more flexible they’ll be and the more opportunities will be available for them to buy up assets, invest in properties, snap up laid off employees and purchase their competitors’ businesses at bargain rates.
There’s no reason to panic about our higher deficits. There’s every reason to prepare.
Gene Marks is founder of The Marks Group, a small-business consulting firm.
