The U.S. government’s debt exceeded $34 trillion for the first time on December 29, just weeks before Congress faces deadlines for new federal funding plans. The national debt represents total historical borrowing by the federal government, rising from $33 trillion in three months due to an expanding budget deficit.
Maya MacGuineas, president of the Committee for a Responsible Federal Budget, labeled the record debt as a disheartening “achievement.” Despite economic strength and low unemployment, the concerning trend of escalating national debt persists, defying conventional fiscal wisdom during favorable economic conditions.
Now that the national debt has increased, what does this mean for Americans? We’ll delve into the details, factors and possible outcomes in this article.
What Is the National Debt?
When the U.S. spends more than it earns, the national debt increases. Public support for tax and spending policies often leads to this, raising concerns about its impact on individuals’ lives and finances. The national debt, amounting to $34 trillion as of Dec. 29, 2023, represents the accumulation of past annual budget deficits.
Debt is a financial obligation incurred by individuals, businesses and governments for various purposes. Consumer debt involves credit cards and loans, while corporations use lines of credit and loans. Government debt, known as national debt, is money borrowed to cover expenses.
In the U.S., the national debt is held by the public, foreign governments, banks and investors. The focus on the debt-to-GDP ratio, which was 120.13% in the U.S. at the end of Q3 2023, is crucial. That means the United States owed more than it produced during the quarter.
Timeline of U.S. Debt
The debt-to-GDP ratio typically increases during and after recessions when GDP contracts, tax receipts decrease and safety net spending rises. Historical instances, such as financing the American Revolution and economic responses to events like the Great Recession and COVID-19, illustrate significant impacts on the national debt.
For instance, former President Ronald Reagan’s policies, featuring tax cuts and spending increases, elevated the debt-to-GDP ratio to over 52% by 1990.
The aftermath of the Great Recession saw the ratio rise from 64% in 2008 to 100% by 2012. In response to the COVID-19 pandemic, the ratio increased from 107% in late 2019 to 128% by mid-2020, gradually declining to 120% by Q3 2023.
How Debt Rose to $34 Trillion
The national debt surpassed $34 trillion earlier than anticipated, outpacing the Congressional Budget Office’s (CBO) January 2020 projections of reaching this milestone by fiscal year 2029. The accelerated growth was driven by the multi-year pandemic starting in 2020, prompting extensive borrowing under former President Trump and President Biden to stabilize the economy.
However, the economic recovery led to increased inflation, elevating interest rates and raising the government’s debt servicing costs.
Washington has been spending as if resources were unlimited, warned Sung Won Sohn, Loyola Marymount University economics professor. With a total debt of $26.9 trillion, about equal to the U.S. GDP, the outlook appears grim, and the CBO projects publicly held debt to reach 181% of economic activity by 2053.
Increased National Debt Effect on the Economy
The current national debt isn’t hindering the U.S. economy, with investors lending to the government. However, long-term projections raise concerns for national security and vital programs like Social Security and Medicare, especially if government dysfunction, such as debt limit disputes, arises.
Increasing debt leads to higher interest expenses, with the CBO projecting net interest costs to increase to $1.2 trillion by 2032. Lawmakers face the dilemma of larger deficits, spending cuts or revenue increases. Bond buyers might demand higher yields due to increased risk, or not if economic growth slows, redirecting investments to fixed income with expected lower interest rates.
Foreign holders of U.S. debt, such as China, Japan, South Korea and European nations, reduced their Treasury note holdings. According to a Peterson Foundation analysis, foreign ownership peaked at 49% in 2011, declining to 30% by the end of 2022. Despite this, the Treasury plans to borrow over $800 billion more by March, raising concerns about the increasing national debt.
The Effect on Americans
Understanding the implications of the current national debt is challenging, but it underscores the nation’s significant fiscal issues.
Even before the pandemic, the U.S. faced an unsustainable trajectory, emphasizing the need to steer towards a more stable fiscal course for a robust and resilient economic future.
At approximately $100,000 per person in the U.S., the debt, while not an immediate threat to economic growth, poses long-term risks. A surging debt load could elevate inflation and sustain higher interest rates, raising the burden of repaying the national debt.
As time progresses, the challenge intensifies, with choices becoming more critical as the costs of major programs like Social Security, Medicare and Medicaid surpass tax revenues.
The timeline for a potentially critical situation remains uncertain, notes Shai Akabas, director of economic policy at the Bipartisan Policy Center.
If and when it unfolds, it could entail swift and significant consequences such as interest rate spikes, recession with heightened unemployment and potential disturbances in consumer prices — scenarios witnessed in recent years.
Bottom Line
A country’s national debt is the accumulation of past deficits, reflecting its obligations to creditors. Economists gauge financial sustainability using the debt-to-GDP ratio. In the U.S., the public holds the majority of the national debt, followed by foreign governments, U.S. banks and investors.
That said, the surge in interest rates significantly raised government debt costs in the United States and globally. In fiscal year 2023, net interest expenses rose 39%, ballooning from fiscal year 2020. That surge, influenced by increased national debt and Federal Reserve rate hikes, complicates fiscal decision-making for lawmakers. The Peter G. Peterson Foundation reported the U.S. government spends $1.8 billion daily on debt interest payments. With a looming borrowing of almost $1 trillion by March, the foundation warns that within a decade, interest payments will surpass combined spending on research and development, infrastructure and education.
On the date of publication, Chris MacDonald did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
