The American Patient

The week could not have begun more unsettled on world markets than it did. All eyes were turned toward the increasingly dramatic debt crisis in the Eurozone and the rising danger that Greece would be unable to restructure its debt. But then the Standard and Poor’s rating agency reminded investors that the global economy faced a far more serious threat. While the credit rating agency still gave the U.S. its top AAA rating, it lowered its outlook to “negative.” This wake-up call caused an ugly shock in financial markets.

The rating agency based their warning to lower the credit worthiness of the world’s dominant economy by citing the danger caused by Washington politicians’ failure to agree on a course of action that would address reducing the upward spiral of government debt. It may be an uncomfortable truth, but the rating agency experts are absolutely right. For weeks, a bitter struggle has been going on in Washington between Republicans and Democrats over the budget. Republicans want to make drastic cuts mainly in government social programs to rein in the debt. The deficit is to be reduced by $5.8 trillion over the next 10 years. Obama rejects the plan put forward by the conservatives, proposing to cut “only” $4 trillion. In this budget year alone, the U.S. will take on up to $1.65 trillion in new debt, about 10 percent of GDP. The entire debt is currently running at over $14 trillion. Measured against total economic output, that is the largest deficit in five decades.

Thus far, the U.S. has chosen a totally different path to balancing the budget than the Europeans. Many old world nations accepted the fact that the excesses of an economic boom that ended painfully must now be followed with a period of austerity. In contrast, the U.S. government decided to fire up the money presses in order to stimulate growth. In that way, President Obama hopes to revitalize the sluggish economy. If the strategy succeeds, unemployment would fall, resulting in stronger growth and increased tax revenues that would help reduce the debt.

Both strategies are risky and the Europeans, with their compulsion to save, might strangle the economic recovery. But despite this concern, it’s nevertheless time for the Americans to try some European medicine. Their economic equivalent of doping may give some short-term impetus to the economy, but the need to save will only be put off until a future date. American politicians need to recognize and accept this reality and come up with a credible plan if they’re serious about taming their homemade debt crisis. Otherwise, investors will lose confidence in the world’s largest economy. That would precipitate a new crisis, not only in world markets, but in the banking industry as well. That in turn would lead to higher credit costs for all areas of the U.S. economy, not only for consumers but for business as well, with potentially fatal consequences for growth and employment.