Deficit Disorder

American Progress Action
Fund

Nov. 23, 2004

President Bush's reckless fiscal policies, combined with a dollar edging towards a dangerous "free fall," are imperiling America's economy. The weak dollar would be little cause for alarm had President Bush's first term tax cuts not "driven the government's budget deficit to record levels." But if foreign bankers, who finance most of America's debt, continue to lose confidence in the Bush administration's ability to pay down that deficit, they could stop investing in our economy. Once that happens, the market for U.S. dollars would dry up, causing the dollar's value to fall further and faster. At that point, to attract investment, America would be forced to raise interest rates, slowing America's economy and making it even harder to pay down the debt. (Put the dollar's decline in perspective with this new column from American Progress's Christian Weller.)

FOREIGN LEADERS SKEPTICAL OF BUSH: To minimize the risk of an abrupt crash in the dollar, President Bush needs to convince the world he is serious about reducing the debt. But the world is skeptical. Last week, as Congress finalized plans to raise America's debt ceiling for the third time in three years, Bush told a summit of CEO's in Chile that he was committed to reducing the deficit. The remarks were not well-received. German Chancellor Gerhard Schroeder "openly criticized the U.S." for its inability to trim its "twin deficit…the current account deficit and the budget deficit." London currency specialist Monica Fan said Bush's pledge didn't "amount to anything more than political posturing." Another European economist said the dollar's accelerated decline since the Nov. 2 election reflected concern that Bush's "emphasis on tax cuts" would prevent him from reining in deficits.

GREENSPAN WARNS DEFICIT COULD DESTABILIZE ECONOMY: The complaints haven't all come from foreign economists. The administration's own Federal Reserve Chairman, Alan Greenspan, warned this week that "The persistence of bloated U.S. trade deficits over time can pose a risk to the U.S. economy." So far, Greenspan said, foreigners have been willing to lend the U.S. money to finance the current account imbalances, but "at some point foreigners might suddenly lose interest in holding dollar-denominated investments. That could cause foreigners to unload investments in U.S. stocks and bonds, sending their prices plunging and interest rates soaring."

MADE IN CHINA: The Bush administration's inability to pay down the deficit is subjecting America's economy to the whims of foreign leaders. "Right now, our whole country's on life-support from Beijing and Tokyo," said Euro Pacific Capital CEO Peter
Schiff. As the dollar continues to weaken, Schiff said, "China might decide it's best to cut us off this welfare scheme and start spending the money on their own citizens." Morgan Stanley economist Stephen Roach adds, "The day will come when foreign investors simply say 'no' to this arrangement. That's when the dollar collapses, US interest rates soar, and the stock market plunges. Under such a crisis scenario, a US recession would be all but inevitable." The Guardian reports the Chinese – the number one financer of American debt – are already "losing their appetite for US holdings."

BACK TO THE FUTURE: Some experts insist the current decline of the dollar is "eerily similar to a decline in the 1970s that touched off the worst period of growth the United States experienced since World War II." Then, as now, the dollar declined at a time of "high budget and trade deficits, low interest rates, high oil prices and ever-increasing military spending." By the end of that decade, "the nation was suffering double-digit rates in inflation, mortgages and unemployment."