This is an official release by St. Louis Federal Reserve, written by Bryan J. Noeth, Research Analyst for public knowledge.
The recent recession affected not only household pocketbooks and budgets but also the financial status of governments at all levels. National government debt—both U.S. and foreign—has garnered headline attention and concerned investors and creditors. When a government’s outlays exceed its tax receipts in a given fiscal year, it runs a deficit and may have to borrow money to make up the difference. Sovereign debt is the accumulation of such borrowing from foreign and domestic creditors. If creditors are unsure whether a national government is able or willing to repay its debts, then the government may have to pay a higher interest rate on the bonds it issues to entice buyers. If a government is unable to issue bonds to cover its debts, then it must resort to other means: cutting expenditures, raising taxes, or borrowing from international agencies such as the International Monetary Fund. Greece and a few other European countries currently find themselves in this situation. Is the United States close to a similar debt crisis?
Greece’s government debt is exceptionally large. Its gross debt–to–gross domestic product (GDP) ratio is nearly 115 percent. This means its debt is greater than its annual GDP. After Greece joined the European Union (EU), investors assumed the EU would not allow Greece’s debt to exceed the Maastricht treaty limit. As a result, Greece was able to borrow funds at low interest rates normally available only to more creditworthy countries. Oddly, the same reason that Greece was able to accumulate this debt—joining the EU—may also be the reason it defaults on this debt. When Greece adopted the euro, it ceded control over monetary policy to the European Central Bank and is prohibited from devaluing its currency as a means of reducing the real
value of its debt (a tactic used throughout history by many countries). Greece is not alone: Portugal, Ireland, Italy, and Spain also face excessive debt because of their high spending and accumulated borrowing. (The group, along with Greece, is somewhat harshly referred to as PIIGS.)
In recent years, the U.S. government has also acquired substantial debt. Its fiscal year 2009 gross debt–to–gross GDP ratio reached 82 percent. Although U.S. debt has been increasing, it may not foreshadow a Greekstyle crisis. The sharp increase in the U.S. deficit has been largely due to the recent deep recession and financial crisis. When GDP decreases, government tax receipts also decrease; at the same time, government spending increases to finance programs such as unemployment benefits. The United States recently implemented two major fiscal stimulus plans to boost the economy.
As the U.S. economy recovers, the deficit should fall as government revenues increase and recessionary spending decreases. According to the Congressional Budget
Office, the U.S. deficit-to-GDP ratio was 9.9 percent in fiscal year 2009 and projected to decrease to 4.1 percent by 2012. In comparison, Greece had a deficit-to-GDP ratio of 13.5 percent in 2009, which is projected to be 15.4 percent by 2012. This projection drops to 6.5 percent if Greece implements its promised austerity measures. In the meantime, the United States should be able to avoid a Greek-style debt crisis. Because the United States is the world’s largest economy, investors continue to perceive U.S. debt as a stable, valuable source of revenue and have been willing to purchase U.S. bonds at relatively low interest rates. Although the United States does not have the same fiscal problems as Greece, there are still issues of concern. High sovereign debt levels levy an undue burden on a country’s citizens, specifically in the form of lower GDP growth and higher taxes.
