There won’t be a debt crisis. Things will continue as always.

Will Debt Sink the American Empire?

After growing for decades, this year the U.S. debt will roughly match its GDP. Throughout history, nations that blithely piled up their obligations have eventually met unhappy ends.

To answer the title, it will not.

Every year the debt doomsayers sound the same warnings about the ‘inevitable’ or awaited debt collapse, yet things keep humming along. The last two major crisis–Covid and the 2008 financial crisis–were not because of the national debt. Sure, an extra $1 trillion of spending is a lot of money nominally, but as the US economy keeps growing, each trillion of extra debt is smaller relatively speaking.

The most important figure is not the absolute size of the debt, but the interest payments relative to GDP. This measures the debt burden adjusted for the size of the economy. Interest payment for 2024 are projected at $900 billion, which is 3.6% of GDP. Historically speaking, this is somewhat elevated, but still well-below the ’90s:

Moreover, about 20% of the national debt is owed to itself, such as Social Security. Presumably, this debt would be easier to cut without hurting credit worthiness compared to public debt.

The debt becomes a bigger problem if the US economy has negative real growth combined with high inflation–stagflation. But even now despite high inflation, real GDP growth still remains positive. However, an economic slowdown is almost always correlated with lower interest rates and falling bond yields, reducing the debt burden and future borrowing costs.

Emerging markets and small economies, in general, have the opposite problem in which falling growth and crisis leads to surging borrowing costs and a falling local currency (relative to the US dollar), due to the ‘flight to safety’ trade. In this case, the doomsayers are right, but it does not apply to the US or Japan as it does elsewhere.

Thus, America is in an especially privileged position in which it’s able to print huge sums of money, including to pay the interest on its own debt, and not suffer the consequences that typically would be inflicted on other countries if they tried the same. During crisis, the Treasury can take advantage of depressed bond yields due to the ‘flight to safety’ to print its way to recovery, like during 2008 or Covid.

I agree that inflation is too high, but it’s one of those situations where it’s better than the alternative, or in which people have no choice. Voters complain about high inflation and housing unaffordability, but also complain when home prices go down or when there is rising unemployment. It’s a no-win sort of situation. The best economy is one where home prices keep going up but somehow remain affordable, or strong economic growth and a robust labor market but also low inflation.

There was low inflation from 2010-2020, and then Covid changed everything. In the span of 3 years the world went from teetering on the brink of collapse from plague, to now an AI revolution that will either bring about the singularity or is the singularity. How does economic models account for that? Stores are packed with people despite high prices and inflation. Expensive neighborhoods have constant home construction and renovation going on due to wealthy people remodeling their already expensive homes. High labor costs have not dented this demand. Space-X is doing major launches every month instead of once a year.

Given all this stuff going on, it is little surprise there is a lot of inflation too. It’s understandable why restaurants keep raising prices if consumers show a unfailing willingness to keep paying. Businesses realized they were leaving money on the table during the pre-Covid era by not raising prices enough.

Also, it’s not as simple as blaming deficit spending: spending surged from 2008-2020 yet inflation did not budge much. Obamacare was predicted to cause massive runaway spending, but that too hasn’t happened. Terms like the ‘Keynesian liquidity trap’ were thrown around to describe this apparent disconnect between massive government spending and the absence of inflation. Thus, the deficit-hawks are sorta stuck between a rock and a hard place: either having to blame stimulus for runaway inflation post-Covid, but also arguing that in 2009-2012 it led to a liquidity trap and was ineffective. Why was deficit spending so effective at boosting the economy post-Covid, but the Obama-era stimulus programs were comparably impotent? Who knows.

Biden’s policies are often blamed for the ballooning national debt, but Trump’s Covid-era stimulus programs, which were continued and expanded by Biden, totaled trillions of dollars of deficit spending, such the CARES Act, which cost $2 trillion. There were a total of six programs totaling over $5 trillion, all but one signed under Trump. Trump himself called for an even bigger stimulus. There is no evidence to suggest deficit spending would have slowed had Trump won in 2020, or slow if he wins in 2024; the evidence suggests the opposite.

Another problem with basing your financial or investment decisions on concerns about a debt crisis is it’s counterproductive. If the S&P 500 goes up 20% a year, like it did last decade and post-Covid, then sitting out for fear of a debt crisis means leaving a lot of money on the table at a time when assets are surging. How much wealth are you willing to forfeit for fear of something which has never happened in the 246-year-history of the United States? You’re stuck with stocks or real estate as the only ways to grow your wealth without it being eroded by inflation.

Moreover, gold as a hedge has proven unreliable. Gold did nothing from 2021-2023 despite high inflation. It was only in 2024, after inflation concerns had eased off, did gold prices surge:

Regarding gold being a hedge against a falling dollar, this is pointless. It’s implicitly understood that the dollar is the benchmark that all wealth in the world is measured against, even overseas. The Forbes 400 list, for example, is always quoted in dollars. Thus, Americans do not lose wealth from the dollar falling, compared to foreign nationals losing wealth when their respective currencies fall relative to the dollar.

There is little economic rationale for gold to go up during a debt crisis. Same for Bitcoin, which time and time has proven to be useless as a hedge. People would be selling their gold and Bitcoin for short-term government debt, like Treasury bills. That is what happened in 2022, which was the closest approximation to an ‘inflationary recession’ in recent history. During a hyper-inflationary crisis environment in which depositors earn high returns, cash becomes very attractive for its income and stability, not gold or Bitcoin, which earn nothing and are highly volatile.

I think too many people are hoping for a debt crisis to upset the status quo or to bring about some much-needed disruption to an economy that is perceived as unfair. But this comes off wishful thinking, not to mention it would cause a disruption to living standards that may be worse than doomsday hopefuls bargained for. Things will continue as always, with trillions continuing being added to the debt without much so much as concern by policy makers but empty promises to do eventually something about it. Like the watched pot that does not boil, the widely-expected debt crisis never comes, similar to the college bubble that refuses to ever burst. By comparison, Covid caught everyone off guard.