It may be a cliché, but Ernest Hemingway’s quip about going bankrupt “gradually and then suddenly” feels very much on point if you look at America’s spending and debt situation — deteriorating, with momentum building toward a crisis.
The latest step along that path came Friday, when Moody’s Ratings removed the final major Triple-A credit rating for the federal government. That means America’s debt is officially no longer considered pristine by any of the main companies that rate it. Moody’s cited successive bipartisan failures to reverse the growing U.S. budget deficit, which it estimated could increase to 9 percent of the gross domestic product within the coming decade, from the 6.4 percent it hit last year. It has previously reached those levels only during times of global crisis: World War II, the 2008 financial crisis and the Covid pandemic.
It’s easy to downplay these fears after decades of hand-wringing that have come to naught. In 1988 — 37 years ago — when U.S. federal debt was less than half what it is today, measured as a percentage of G.D.P., the Federal Reserve chairman, Alan Greenspan, warned of the country’s fiscal situation. He said that “the long run is rapidly turning into the short run.” He added that “the effects of the deficit will be increasingly felt and with some immediacy.”
It turned out that domestic and foreign investors were willing to buy ever-larger amounts of government debt to finance America’s overspending. Investors even continued to buy debt after America’s first credit downgrade, by what’s now known as S&P Global Ratings, in 2011. The coming week seems unlikely to repeat such a rosy scenario.
Dynamics today are changing in ways that finally make Mr. Greenspan’s warnings urgent. Some investors are questioning how much exposure they want in U.S. financial assets. Politicians clinging to increasingly thin majorities in Congress are more willing to encourage voters with spending or tax cuts than they are to tackle the problem. The combination will lead to investors demanding higher interest rates to buy U.S. debt, which slows economic growth by raising borrowing costs for households and businesses. It also eats into the cash available for the government itself, worsening the underlying budget math. Wash, rinse, repeat.
Politicians from both parties have tried to meet that challenge not directly, but by fussing with the arcane way Congress accounts for spending. Take a look at the budget legislation recently released by the House Ways and Means Committee. Several of the tax cuts would not last through the typical 10-year time frame, but instead would expire at the end of President Trump’s term. They include a removal of taxes on tips and overtime pay, and increases in standard deductions and child tax credits.
By making tax cuts temporary, the overall cost of the 10-year plan is reduced, which makes it easier to pass. It also puts the burden on the next administration and Congress to choose between extending the cuts, which would add further to the deficit, or letting them expire, which to most voters would feel like a tax increase — something most lawmakers would want to avoid.
Voters don’t have a strong grasp on how fiscal math works. In a recent poll by the Hoover Institution, a conservative think tank associated with Stanford University, 75 percent of respondents said they were concerned about the growing federal debt and thought Congress should tackle it. However, only 17 percent thought Social Security was the largest federal spending program (it is) and only 27 percent thought that extending Trump’s 2017 Tax Cuts and Jobs Act for another decade would push deficits higher (it would). This perception contrasts sharply with analysis from the Yale Budget Lab, a nonpartisan research center. It estimates that making the 2017 tax cuts permanent would push the bill’s total cost to $5 trillion over the coming decade.
As long as politicians and voters aren’t on the same page about how to get the federal debt on a sustainable path, which increasingly points to Social Security reform and selective tax increases, both parties are likely to indulge in more and more fiscal accounting tricks. Anything described in Washington as temporary rarely turns out that way.
So what would this do to America’s fiscal outlook? The Yale Budget Lab, as a thought experiment, assumed that the temporary tax provisions under consideration becomes permanent. Even including some potential tariff revenue to help offset the lost tax revenue, the cost would be $2.5 trillion over the coming decade. At the end of 30 years, the size of America’s debt would represent 180 percent of its G.D.P. The only countries with higher debt ratios today are Japan and Sudan.
Moody’s decision tells us that this fiscal path has costs. One is the willingness of investors to buy Treasury debt without getting a higher interest rate to reflect the growing fiscal risks. A report by the Peter G. Peterson Foundation, a think tank that favors deficit reduction, showed that foreign ownership of publicly held U.S. debt had risen to about 30 percent of the total by the end of last year, from about 5 percent of the total in 1970. Some of those investors may be more motivated to trim their bond holdings now that the U.S. is no longer a Triple-A rated financial asset.
A jump in interest rates for the U.S. 10-year Treasury was one reason Mr. Trump paused his reciprocal tariff plan. And they continue to have the administration’s attention. Treasury Secretary Scott Bessent told lawmakers this month that “the debt numbers are indeed scary,” and a crisis would involve “a sudden stop in the economy as credit would disappear.”
The growing debt burden risks making bond buyers nervous and thus America’s debt more expensive to maintain. To put numbers to this spiraling scenario, the Committee for a Responsible Federal Budget, a nonpartisan nonprofit group focused on fiscal policy, estimates that a sustained 10-year Treasury interest rate of 4.4 percent, which is where it was Friday morning, would add an extra $1.8 trillion to the debt even beyond what’s currently forecast for the coming decade.
Sadly, it seems unlikely the Moody’s rating downgrade will be the catalyst for Congress to change its current policy path. But lawmakers should know that the potential for America to shift from a gradual, albeit unsustainable path to a sudden financial crisis is surely increasing.
Rebecca Patterson is an economist and senior fellow at the Council on Foreign Relations who has held senior positions at JPMorgan Chase and Bridgewater Associates.
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