The world does not owe Trump's America a living

Telegraph

15-05-2025

Angry bond markets taught Donald Trump a lesson over tariffs. They are now itching to teach him a second and more painful lesson over runaway debt and the abuse of fiscal privilege.
The US has a structural budget deficit of 7pc of GDP at the top of the cycle, at a time of full employment. This level implies a double-digit blow-out and a compound debt trap in the next recession.
'We're convinced that we're immortals, and we can just do whatever we want,' says Harvard professor Ken Rogoff, co-author of This Time is Different: Eight Centuries of Financial Folly.
He says a sudden and sustained rise in real interest rates – not nominal rates – is what brings down hedonist states through history, usually after a long era of bewitchingly cheap capital.
It is the retribution tale of the mid-2020s. The Federal Reserve's measure of 10-year real rates was pinned to the floor over the post-Lehman decade. It was negative five years ago.
It has been closer to 2pc since Covid violently reset the rules of the international financial system. This jump has played particular havoc with the US debt trajectory.
The Bank of America has pencilled in deficits of $2 trillion (£1.5 trillion) this fiscal year, $2.2 trillion in 2026, and $2.3 trillion in 2027, even if all goes well. Money raised from tariffs – $300bn at best, assuming there is no retaliation or offsetting damage – does not even slow the fiscal degradation.
These are gargantuan demands on global capital markets. The US treasury must refinance $7 trillion of debt this year alone. 'How did you go bankrupt?' goes the immortal line from Ernest Hemingway: 'Two ways. Gradually, then suddenly.'
So what do Republicans on the House ways and means committee do at this treacherous moment? They feast on a ' big beautiful bill ' that adds a putative $3.8 trillion to the debt mountain, but is in reality worse, once you adjust for sunset clauses and evasive gimmicks.
'The 10-year cost of the tax cuts is likely over $5 trillion,' said Matthew Aks, from Evercore ISI.
The American people cannot fund such debt issuance. Fed data shows that the net national savings rate has dropped from an average of 11pc of GDP in post-war era, to 7pc in the late 20th century, to 3pc over the 2010s, to 0.6pc today with the final breathtaking adventurism of Joe Biden and Donald Trump, the Tweedledum and Tweedledee of fiscal insouciance.
It is this excess consumption that sucks in imports and causes America's chronic trade deficits. Trump feigns not to understand. There is more advantage in railing at foreigners, or so he thinks.
Nothing is being done about the real cause of America's ruin: middle-class welfare. Why is the US still allowing a tax deduction on mortgages up to $750,000? The IMF says the projected long-term rise in spending on federal health schemes (mostly Medicare) and pensions is higher than for any other developed economy as a share of GDP.
Elon Musk's Doge cuts are mostly an ideological purge masquerading as an efficiency drive. Trump has his own Christmas tree of crowd-pleasers: no taxes on tips and overtime; a fresh bung for pensioners; and a tax deduction (another one) on car loans.
This has the makings of a Liz Truss episode, without the quick rectification made possible by Tory ruthlessness and Britain's parliamentary system.
Hedge funds are honing in on stress emerging in the US Treasury market. For aficionados, the 10-year 'break-even rate' spiked to 2.37pc on Wednesday. The 5y/5y forward swaps (don't ask) are flashing amber warnings. Levels are nearing no-go lines set by Scott Bessent, Trump's treasury secretary.
He has the 'Bessent Bond Put' up his sleeve. He can nudge banks into buying more treasury debt by raising the 'supplemental leverage ratio' in collusion with Fed, now that Trump has installed his acolyte as Fed vice-chairman in charge of supervision.
He can rotate debt issuance to short-term bills, but that is playing with fire. Average debt maturity is already down to 5.9 years, compared to 14.4 years for the UK. The lower the maturity, the faster the feed-through into debt dynamics. Bessent attacked Janet Yellen for doing exactly that.
Global bond vigilantes are not stupid. They can see that Trump is trying to bully the Fed's Jerome Powell into slashing rates and that he will stack the Fed board over time. He will pressure the institution to soak up the debt, and inflation be damned.
The clear risk is a stealth default via debasement, which the Fed already did once to pay for Covid and Bidenomics, tolerated only because it was (arguably) an innocent monetary error rather than deliberate theft.
Prof Rogoff says that episode was an amuse bouche. He fears inflation could reach 20pc to 25pc in the next wave, which may not be far away. No bondholder waits for that. Once in motion it becomes self-fulfilling.
The vigilantes also know that Stephen Miran, head of the White House economic council, has talked of an outright default by means of a forced debt swap or a 'fee' on foreign holders of US treasuries, on the alleged grounds that America's foes have been buying US debt to suppress their currencies and snatch export share.
They have done no such thing for over a decade but never mind. The point is that this White House is already eyeing expropriation of your pension pot and mine.
An administration that has already shown its enthusiasm for smashing the global furniture on everything else – trade, alliances, borders, and the climate – would not hesitate to execute the Miran plan once it needs money.
Even before the beautiful Maga bill, Scope Ratings warned that US federal debt would reach 133pc of GDP by 2030, up from 99pc before Trump 1.0. It could rocket quickly from there to 150pc if interest rates misbehave.
Japan has muddled through with a higher debt ratio, but that tells America nothing. The Japanese people are the world's biggest external creditors. They have a net international investment position (NIIP) near 90pc of GDP.
The US is the world's biggest external debtor by far, with an NIIP of minus 90pc of GDP and net liabilities of $26 trillion.
Larry Summers, the former US treasury secretary, told the Bulwark that markets are no longer treating America as a 'bastion' economy. There are days when the dollar falls hard even though US bond yields are rising. Investors are buying gold instead of US treasuries as a safe haven. 'When that happens, it's a sign that people have stopped trusting you,' he said.
Summers compared the picture to Europe in 1914. The region had become brittle. Crises that had been contained a decade earlier were becoming harder to control. The margin of safety was wafer-thin.
'We've started making huge-scale errors in terms of our attitude towards the rest of the world ... Our potential hostility to investors in our currency,' he said.
Trump is behaving as if he is master of events, and nobody else has agency. Did he not calculate the risk that Xi Jinping and Vladimir Putin would call his bluff, and leave him looking like a floundering amateur?
Does he think that foreign investors will wait to be robbed? He requires a constant inflow of fresh global capital to refinance America's $36 trillion debt and to fund new debt issuance.
What happens if inflows dry up? What happens after that if foreigners start to withdraw their $14.2 trillion holdings of US debt securities, and $17 trillion of US equities?
Summers says the denouement could come faster than we think – 'front-loaded', in his words – and this could set off a self-feeding spiral as markets rush to deleverage. 'Right now, I think we are in a moment of very substantial risk,' he said.
If Trump wants the world to keep buying his debt, he might be advised to stop punching the world in the face.