THE BLOG
05/28/2014 10:58 am ET Updated Jul 27, 2014

The U.S. National Debt: Can The Federal Reserve Perform Fiscal Alchemy Forever?

In the year 2000, as George W. Bush assumed the role of 43rd president of the United States, America's national debt stood at $ 5.7 trillion, while the annual GDP was $10.7 trillion. Now, 14 years later, with the U.S. GDP standing at $16.2 trillion, the gross national debt exceeds $17.5 trillion. The numbers are so massive, they numb our consciousness and render America's fiscal reality incomprehensible. Thus explains the lack of public arousal over the size of the country's federal government debt. What cannot be understood -- or explained -- is deemed irrelevant to the public at large. After all, what impact could the nation's archaic fiscal bookkeeping have in the lives of the average citizen?

History, however, teaches a very different lesson. The historical record on the rise and fall of major powers reveals more often than not that the sovereign's fiscal insolvency is more likely to lead to its demise than military defeat. Witness the break-up of the Soviet Union, and the British and French empires in the last half of the twentieth century.

A look at the statistics of the U.S. national debt tells a story of fiscal nirvana. Between 2000 and 2014 America's GDP grew, in nominal terms, by 51 percent. In that same period, the national debt increased by more than 200 percent. In other words, during the past decade and a half, the U.S. national debt has grown at four times the rate of its national economy. This would appear to be an unsustainable expansion of the national debt, yet there appears to be no obvious signs of economic or financial crisis afflicting the nation, despite the clear fiscal trajectory.

Appearances are deceiving, owing to a unique institution, the Federal Reserve, and equally unique status of the American dollar as the global reserve currency. The unprecedented interventions enacted by the Federal Reserve since the onset of the global financial and economic crisis in 2008, including quantitative easing and debt monetization, have had the effect of artificially depressing interest rates the U.S. Treasury pays on its debt instruments. At times, America's bonds have sold widely on the global debt market, despite paying near zero interest rates. To put this monetary and fiscal alchemy into perspective, in 2000 the U.S. made $362 billion in interest payments; the figure for 2013 was $415 billion, despite the national debt that year being three times larger than in 2000. Factoring in the growth in the federal budget over that same period, the proportion of federal outlays devoted to debt servicing costs in 2013 was actually significantly lower than was the case in 2000.

What this all means is that the United States has no fiscal problem, as long as the Federal Reserve can maintain artificially low interest rates in perpetuity. Failing that, when interest rates return to normal levels, America's fiscal reality will become mathematically unsustainable, leading to a profound budgetary crisis. When that happens cannot be predicted, but it is a matter of metaphysical certainty that it will, and when that dreaded day occurs, it will be beyond the capacity of Washington's policymakers, including the Federal Reserve, to conjure up a solution devoid of pain.