The US Budget Deficit and its Impact on the Global Economy

How the US Turned a Surplus into a Deficit

The ballooning budget deficit of the United States has become a matter of intense debate and speculation as to how the country intends to finance its budget deficit.

To go back a few decades and understand the genesis of the budget deficit, it would be worthwhile to consider that the Clinton Administration left office with a budget surplus and the fiscal situation of the US was quite comfortable.

However, under the Bush administration, the surplus turned into a deficit as the US had to finance two wars as well as fund the tax cuts and the tax breaks that were offered to the wealthy. This resulted in the creation of the budget deficit.

Further, the economic crisis of 2008 made the deficit widened, as the bailouts had to be financed by the US government. Added to that were the various stimulus packages that contributed to worsening the budget deficit that now exceeds a Trillion Dollars on an annualized basis. It is indeed a sad state of affairs that the surplus in 2000 has turned into a yawning deficit in 2013.

How the US Finances its Deficit

To consider the ways in which the US government finances its deficit, the primary method that it used to follow until 2008 was through the sale of the sovereign bonds and the US treasuries or the T-Bills that were then purchased by foreign governments and institutional investors.

As the Dollar is the world’s reserve currency which means that all countries trade with each other in the USD, it makes sense for other countries to hold the US government bonds and the Treasuries as the Dollars that are available with them can be lent to the US to finance its deficit. Of course, this situation created imbalances in the world with other countries exporting to the US and then using the export proceeds to lend to the US thereby creating a real estate bubble and fuelling rampant consumerism. This resulted in the economic crisis of 2008 after which many countries (primarily China) in the world decided that they were no longer going to finance the deficit.

Therefore, the US Federal Reserve started to print Dollars or indulge in outright purchases of US T-bills and bonds and this became the de facto method of financing the deficit. This is the situation that is now become alarming, as the continued printing of dollars by the Fed has created excess liquidity in the global markets.

The Impact of the US Budget Deficit on the Global Economy

Though the US budget deficit is primarily a problem that is internal to the United States, other countries have a reason to be alarmed as the Dollar is the reserve currency which means that excessive printing of Dollars would lead to them being invested in the global markets creating asset bubbles and contributing to inflation and other negative effects.

As the recent stock crashes around the world proved, the global markets are addicted to the Federal Reserve’s easy monetary policy and any announcement of hinting at tapering the printing of money was by itself enough to send the stock markets crashing.

Indeed, this is a dangerous situation as mere statements are causing the crashes without the actual action and one would shudder to think what happens to the global economy when the Fed decides to end the monetary easing or the printing of money.

Therefore, many counties without explicitly naming the US budget deficit have called upon the US to behave more responsibly and ensure that the global turbulence would be contained rather than exacerbated.

Concluding Remarks

The point here is that eventually the US consumer has to consume less and bring down the deficit rather than going on a binge without a care for the consequences. Finally, it is high time for the countries of the world to trade in currencies other than the Dollar as that is the only way out for the current chaos in the global markets.

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