Download The World`s Largest Debtor Nation: What Does Debtor Nation Status

The World’s Largest Debtor Nation:
What Does Debtor Nation Status Mean?
Brittany Whetts
Introduction
The United States (U.S.) has been a debtor nation for many years. The
purpose of this paper is to describe what it means to be a debtor nation
and how the U.S. got in this position. Additionally, related issues
including the trade deficit, U.S. debt history, presidential focus, China as
a major holder of debt, and the current economic stimulus package are
discussed and possible remedies are examined.
The U.S. has been a country dependant on foreign investments
for some years; this is the meaning of the designation, debtor nation.
This dependency is inextricably linked to the nation’s status of
chronically experiencing trade deficits; it is also linked to government
deficit spending. The U.S. was first considered a debtor nation 20 years
ago, and has continued in this condition since; the nation currently has
a trade deficit with more than 12 countries. The U.S. has implemented
several strategies in hopes of stabilizing this international debt.
History
In the late 1700s the U.S. incurred debt through the financing of war as
opposed to foreign trade. In 1776, during the American Revolutionary
War, the ten founders of the American treasury funded the war through
loan certificates which they borrowed from France and the Netherlands.
At the end of the Revolutionary War in 1783 the U.S. had amassed a
national debt of $43 million. About three decades later the War of 1812
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began and it was funded by borrowed funds and helped increase the
debt from $45.2 million to $119.2 million.
Throughout the 1800s the U.S. would see two more wars
causing debt, including the War with Mexico and the Civil War. The
debt caused by the War with Mexico which totaled a debt of about
$63 million was soon overshadowed by the Civil War in 1860. It is
estimated that by the end of the Civil war in 1865 the national debt
grew to $2.2 billion (Bureau of Public Debt, n.d.).
In 1907 the U.S. was in a state of panic as the New York Stock
Exchange dropped 50 percent from the total of the previous year. This
panic caused the U.S. to reconsider the use of a central bank. Nine years
later the U.S. prepared for its entrance into World War I (WWI). The
government raised taxes and borrowed an additional $300 million as
well as the first liberty loan totaling $5 billion.
By the end of WWI in 1919 the total debt reached more than
$25 billion. Many events following WWI including the stock market
crash of 1929 and World War II (WWII) in 1939 there was no real panic
about the National debt. Following the wars the U.S. adopted the
Keynesian theory and was no longer concerned with balancing of
national budget. The Keynesian theory was set as a basis of economic
policy designed to ensure economic growth and stability, the U.S. policy
focus. Following the Vietnam War, which was the most expensive war to
date, the U.S. showed an economy in the black for the last time until
three decades later (Bureau of Public Debt, n.d.).
In 1981 Ronald Reagan was elected president of the U.S. and
named the National Debt one of his main priorities. During Reagan’s
tenure as president he entered two debt increasing ventures, the war on
drugs and the funding of the Cold War, which ended in 1989. Each of
these expenses carried a debt of about $3.3 trillion into 1990 increasing
throughout the years (Bureau of Public Debt, n.d.).
The New Millennium
Throughout the new millennium the U.S. began to increase its debt
based on trade rather than war. The U.S. imports almost everything
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used today including crude oil, technology, and machinery. These three
primary imports are essential to U.S. trade. The U.S. exports goods such
as agricultural products, consumer goods, and raw materials. These
imports and exports have grown the United States trade deficit
tremendously. During this time period, the U.S. became trading partners
with soaring economies such as India, Japan, and China. While these
countries benefit from U.S. Debt, U.S. citizens feel the pressures of a
lagging economy.
Major Holders of American Debt
There are about 12 countries that hold extensive amounts of U.S. debt.
Germany holds about $56 billion (Burgess, 2009). Germany is one of the
world’s largest exporters and the second largest importer of goods. Taiwan
holds about $73 billion in U.S. debt, while Brazil which is considered
South America’s economic giant, holds $134 billion in U.S. debt. The two
major countries, however, holding U.S. debt are Japan at $635 billion and
China at $769 billion (Burgess, 2009). Each of these countries’ exports
everything from technology to consumer goods to the U.S.
China
China has been the leading exporter to the U.S. for many years. China
has had the world’s fastest growing economy in the past quarter century.
It currently has the second largest economy in the world behind the U.S.
at $8 trillion based on purchasing power parity (Burgess, 2009).
The U.S. imports a majority of its goods and services from
China, helping build the trade deficit. China has become the third largest
supplier of agricultural products to the U.S. It supplies the U.S. with
goods such as milk products, seafood, and pet supplies, in addition to
technological materials and machinery (Burgess, 2009). Table 1, below,
illustrates both imports, exports and the trade balance with China.
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Table 1. Trade with China: 2009
NOTE: All figures are in millions of U.S. dollars, and not seasonally adjusted
unless otherwise specified.
Month
Exports
Imports
Balance
January 2009
4,178.1
24,748.0
-20,569.9
February 2009
4,678.4
18,874.5
-14,196.1
March 2009
5,569.9
21,187.7
-15,617.8
April 2009
5,164.9
21,918.7
-16,753.8
May 2009
5,247.8
22,731.5
-17,483.8
June 2009
5,549.2
23,979.1
-18,430.0
July 2009
5,274.3
25,691.2
-20,416.9
August 2009
5,553.1
25,784.7
-20,231.7
September 2009
5,813.7
27,914.9
-22,101.2
October 2009
6,857.4
29,520.8
-22,663.4
November 2009
7,326.3
27,549.9
-20,223.6
December 2009
8,362.9
26,501.0
-18,138.1
69,576.0
296,402.1
-226,826.1
TOTAL
Source: U.S. Census Bureau, Foreign Trade Division, Data Dissemination Branch,
Washington, D.C. 20233
Causes: Trade Deficit
A trade deficit is a negative balance of trade in which exports are
surpassed by imports. The last trade surplus (where exports exceed
imports) in the U.S. was seen in 1975 (History of U.S. Trade, n.d.).
Throughout the last ten years the trade deficit has risen steadily with
major increases occurring in the years 2005 and 2006. Trade deficits are
seen as negative because they cause loss in home jobs and also weaken
the dollar.
In 2001, the U.S. trade deficit was viewed as a sign of a strong
economy because it was said that “a trade deficit signals improving
economic conditions.” It has been shown that during the largest trade
deficits the U.S. has been in a state of expansion. While during the
smallest trade deficits it has been shown that the U.S. was in a state of
recession during these periods.
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One of the main worries caused by the U.S. trade deficit is that
the country will incur a massive amount of foreign debt. This worry
became increasingly evident within the past decade. In the past, the U.S.
exported many thing including raw materials and metals. At present, the
U.S. major export is its own debt (History of U.S. Trade, n.d.); this fact
alone communicates the riskiness of the current economic state. Table 2
illustrates the trade balance (surplus or deficit) as a percentage of Gross
Domestic Product (GDP).
Table 2. Trade Balance as a Percentage of GDP
U.S. Trade Balance as a Percentage of GDP
1%
Percent of GDP
0%
-1%
-2%
-3%
-4%
1960
1962
1964
1966
1968
1970
1972
1974
1976
1978
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2007
-5%
Trade Balance as % of GDP
www.data360.org
Source: Data 360.org
The War in Iraq
The Iraq War which began on March 20, 2003 has been a major
contributor to the debt of the U.S. in recent history. The events of
September 11, 2001 led to the eventual invasion of Iraq, a military action
which is still in progress today. Over the past nine years the Iraq and
Afghanistan wars have cost the U.S. over $830 billion (Blimes, 2008).
It is estimated that by the end of the war, the U.S. could spend
upwards of $3 trillion (Blimes, 2008). With the election of a new
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president, it was hoped that troops will be pulled from Iraq and
Afghanistan at some point in the near future. Such withdrawal of the
troops should minimize the loss of life as well as stabilize debt growth
from that source. Current president, Barack Obama, laid out his exit
plan for Iraq at the beginning of his term and plans for an exit from
Afghanistan more recently. The President stated that “up to 107,000
troops will be withdrawn [from Iraq] by August 2009” with 50,000 others
scheduled to exit in 2011 (Blimes, 2008).
It is estimated that former President George W. Bush spent
nearly $2 billion per week to fund the Iraq War (Blimes, 2008). President
Bush increased the national debt by $4 trillion while in office leaving
the next president to inherit an economy in peril (Blimes, 2008).
George W. Bush
George W. Bush was elected to office in 2000. When President Bush was
sworn in January 20, 2001 the national debt stood at $5.7 trillion and
increased by 71.9 percent during his tenure in office. By the time George
W. Bush left office on January 20, 2009 the national debt stood at $10.6
trillion (Knoller, 2008).
It has been said that during two terms as president George
Bush has turned in the worst economic record since the great
depression. One of George Bush’s favorite spending tools was offshore
oil drilling which cost the U.S an enormous amount of money (Knoller,
2008). George Bush’s administration was also one that saw the greatest
increases in oil pricing per barrel in American history (Knoller, 2008).
Table 3, below, shows the increase in crude oil prices through various
wars, illustrating the relationship between war and oil. Both have had
substantial impact on U.S. indebtedness.
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Table 3. The Relationship Between War and Oil Prices
Crude Oil Prices
2007 Dollars
$100
OPEC 10 % Quota Increase
Asian Econ Crisis
2006 $/BARREL
$80
$60
$40
Iran / Iraq
War
Suez
Crisis
PDVSA Strike
Iraq War
Asian Growth
Weaker Dollar
Series of OPEC Cuts
4.2 Million Barrels
Iranian
Revolution
Gulf
War
Yom Kippur War
Oil Embargo
$20
U.S. Price
Controls
$0
U.S. 1st Purchase Price (Wellhead)
Avg. U.S. $24.98
9/11
WTRG Economics ©1998-2008
www.wtrg.com
(479) 293-401
Median U.S. & World $19.04
1947 – MAY 2008
“World Price”*
Avg. World $27.00
Source: Williams. WTRG Economics. 2009.
Barack Obama
The new president Barack Obama inherited a struggling economy in
2009. Prior to his election he spoke about the U.S. budget deficit in a
debate with Senator John McCain on August 14, 2008. After the debate,
his economic policy director spoke about Obama’s views stating that
“…we need to change our economic policies by investing in education,
new energy jobs, and technology so that we can strengthen the
productivity of our workers and businesses; by enforcing our existing
trade agreements and negotiating better trade agreements; and by
reducing record budget deficits and raising low savings rates so that
America does not have to borrow hundreds of billions of dollars
annually from abroad (Steinhauser, 2009).” An increase in U.S.
production will reduce the nation’s reliance on foreign imports, thus
reducing the nation’s indebtedness.
Following this statement, the U.S. trade deficit did decrease to
its lowest point since 1999, though the recession also would have
contributed to that decline, as noted earlier. President Obama has also
encouraged international investment in the U.S., which has the impact
of increasing U.S. indebtedness (Steinhauser, 2009).
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Causes of the Trade Deficit
The U.S. trade deficit is the result of a net inflow of capital to the U.S.
from the rest of the world (Griswold 1998). The U.S. currently harbors a
relatively free market which is very attractive to many foreign investors;
it is also true that the nation has become an importer of capital based on
an inability to save domestically (Griswold 1998).
Related to the import of capital, and fundamentally the cause of
that import, is the volume of imports into the U.S.; an influx of capital
allows for payments for imports in excess of exports. Implied by this is
that, in order to reduce and ultimately reverse, the trade deficit, the U.S.
must reduce imports relative to exports, and change savings and
investment patterns. The U.S. has such major trade deficits with so
many different countries, that it seems likely that recovery will take
some time.
Consumerism
As has been noted throughout this paper, the trade deficit is a primary
driver of foreign indebtedness. Consumerism is the belief that a high
level of consumer spending is desirable and beneficial to the economy
(Fong and Partners, 2006). Much of the debt incurred by the U.S. is
directly related to consumerism; borrowing occurs when there is a gap
between Americans’ incomes and their rate of consumption.
The gap between income and consumption reached an
astounding seven percent in 2006 (Fong and Partners, 2006). It was
found that in 2006, U.S. consumers bought more goods and services
than the entire output of Brazil, the tenth largest economy in the world
(Fong and Partners, 2006).
In spite of the magnitude of spending, consumerism is still
viewed as a positive force in the economy. Consumers make up about
two-thirds of the U.S. economy (Fong and Partners, 2006). Consumerism
also helps create jobs and brings wealth to foreign investors, making
our economy more appealing to those investors. The obvious question
raised by economists, however, is what happens if consumers reach the
end of their ability to borrow and spend?
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Budget Deficit
A budget deficit is defined as spending in excess of income and
government debt is cumulative deficits. The U.S. government has
carried a budget deficit since 1969 and, even in those years when the
U.S. reported a surplus, there was still overspending. Budget deficits
contribute to international debt in that when government debt is created
some percent of that debt will be bought by international investors. Debt
creates interest expense and interest, alone, forms the third largest
expense in the federal budget (Cline, 2005). The top two expenses
include defense and income redistribution (Cline, 2005).
The Economic Stimulus Package
Economic stimulus is use of fiscal policy; government spending or tax
measures are used to support or revive an economy in recession. In
2009, President Obama implemented a plan that would help stimulate
the American economy (Steinhauser, 2009).
This plan included making the U.S. more energy efficient,
providing more jobs, and supplying American citizens with tax cuts and
rebate checks. This plan would help increase income to citizens
allowing them to spend more, as a result revitalizing the economy
(Steinhauser, 2009).
This stimulus plan cost the U.S. government an additional $789
billion (Steinhauser, 2009). The plan also included aid to states for
Medicaid costs, temporary increases in unemployment benefits, and public
works projects to create jobs. Also included were efforts designed to
improve the nation’s access and use of technology by converting medical
records to computer based storage and expanding internet access.
While praised by many economists as a necessity during a
deepest recession since the Great Depression, the stimulus package had
its share of critics as well. Much of the criticism centered on the
argument that a nation cannot borrow more money to spend its way
back to economic greatness. Republican Cathy McMorris Rodgers stated
this counter argument with the statement that “instead of letting
American families keep more of their hard-earned tax dollars, this plan
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proposes to spend additional money on such programs as new
government cars, global warming studies and a billion extra dollars for
the U.S. Census.” Further, the counter argument goes that “in order to
balance the budget enacting tax cuts are central to moving our economy
forward” (Steinhauser, 2009).
The implication of this argument is that tax cuts created by the
stimulus were either not deep enough, or went to the wrong people, to
create enough stimulus effect. The argument for balancing the budget
during recession is a political one, not an economic one. Balancing a
budget during recession could only result in a deeper recession.
The Table that follows, Table 4, illustrates where the economic
stimulus package dollars are being spent, by functional area. This
package allocates billions of dollars in both tax cuts and spending in a
Keynesian style fiscal stimulus plan.
Table 4. Allocation of The American Recovery and
Reinvestment Act of 2009
Entire Stimulus Package, Billions of Dollars
state and local law
enforcement, 4
temporary increase in the
Medicaid matching rate, 87
???, 31.3
tax cuts, 275
food stamps, 20
healthcare for newly
unemployed, 39
increased unemployment
benefits and job training, 43
preventative care, 4.1
transform the nation’s energy
transmission, distribution, and
production systems, 32
health I.T., 20
higher education
modernization, 6
Pell grant, 15.6
state fiscal relief, 79
local school districts, 41
repair public housing and
make key energy efficiency
retrofits, 16
weatherize modest-income
homes, 6
science facilities, research,
and instrumentation, 10
transit and rail, 10
clean water, flood control,
and environmental restoration
investments, 19
highway construction, 30
modernize federal and other
public infrastructure, 31
Source: Rampell. New York Times. “Stimulus Pie Chart.”
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expand broadband internet
access, 6
Consequences of Borrowing
A consequence of borrowing extremely large amounts of money from
abroad is the potential damage done to the American standard of living,
in the present as well as the future. In 2004 it was predicted that by
2014, foreign debt would consume 1.7 percent of gross domestic product
in the U.S. (Shostak, 2004).Citizens of the U.S. must also look to their
own behavior as it contributes to the nation’s debtor status, as has been
discussed, the huge trade deficit is the current driver of increasing
international indebtedness (Bivens, 2004).
If Americans do not begin to decrease the trade deficit, there
may come a period when foreigner investors will no longer be willing to
put their resources into investment in American assets. Should this
happen, the dollar will weaken internationally and interest rates will
have to rise to attract foreign investment.
Other consequences of extensive borrowing could include job
loss for working class Americans as more production is done abroad and
imported into the country, a crash in the housing market as foreign
investors sell off their U.S. assets, and much higher prices for products not
made in America. Table 5 shows the estimated debt in the next five years.
Table 5. Projected Foreign Debt as a Percent of U.S. GDP
Projected increase in international debt service burden, 2004-14
2.0%
1.7%
1.5%
1.1%
1.0%
0.8%
0.4%
0.5%
0.0%
1.3%
1.4%
1.5%
0.9%
0.6%
0.2%
0.0%
2004
2006
2008
2010
2012
2014
Source: Bivens, 2004.
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The Dollar
The interpretation of the impact of a weakening dollar is mixed. In
recent months the dollar has lost ground to the Euro, Canadian Dollar,
and the Pound. The weak dollar has made U.S. exports more attractive
and imports less so; it encourages investment in American industries
because dollars are cheap and assets that can be bought with dollars
that are relatively less expensive. Investments from China and Russia
help keep interest rates down, offsetting to some extent continued U.S.
imports from China and oil purchases from Russia (Delfeld, 2007).
Conversely, there are negative effects from a weak dollar.
Delfeld outlined a series of reasons why a weak dollar is bad for the
economy (Delfeld, 2007). First, he notes that “a weaker dollar translates
into a cut in the real spending power of American consumers—in effect,
a reduction in real income.” Also, “a weaker dollar weakens the role of
the U.S. dollar as the world's reserve currency. Why should investors
and central banks around the world invest in U.S. assets when their
value is steadily declining?”
Another reason to fear a weaker dollar, writes Delfield, is that
“the chances of a weaker dollar leading to a sharp reduction in
America's trade deficit is highly unlikely since 40 percent of the current
balance is due to oil imports that are denominated in U.S. dollars. An
additional 20 percent is due to trade with China, which is, of course,
controlling the value of its own currency.” Also, “a weaker dollar is
inflationary since it increases the cost of imports.”
Delfield also states that “business leaders know that
discounting prices may bump near-term revenue and profits but at a
real cost to long-term profitability” and “what a weaker dollar really
does is to encourage American and international investors to invest in
non-American markets. The more the dollar drops, the more global
equities rise. Many Asian currencies are hitting record highs against the
U.S. dollar” (Delfeld, 2007). Both positive and negative arguments are
valid; what is not known is which effects will be stronger.
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Conclusion
The U.S. is in a very complex economic situation. The term, debtor
nation, refers to a nation with a cumulative balance of payments deficit
and a negative net investment after recording all financial transactions
completed worldwide. For many, the implication of this status is a
country with a weak economy. Other analysts and economists view the
U.S. debtor nation status as more of a benefit than a problem.
It is true however, that a huge international debt has the
potential to scare off international investors in the U.S. economy and
government debt, and put upward pressure on domestic interest rates. It
is also certain that government interest payments take an increasingly
large portion of the Federal budget, though much of this interest is paid
to Americans holding government debt, meaning that the debt is an
income transfer from American taxpayers to American treasury
securities holders.
The current recession makes management of U.S. debt far more
complicated. The necessity of the economic stimulus package is not
questioned by most economists; neither is it questioned that the stimulus
must drive up government debt. Throughout the history of this country,
the U.S. has relied on debt, including foreign debt to finance its activities.
It seems unlikely that the nation will be able to become a net
lender as opposed to a borrower. There is a great deal of discussion
about Federal Government debt, but that is not sufficient to address the
problem of the international debtor status of the U.S.; complicating this
is the need to stabilize the economy as it emerges from the “Great
Recession,” as some have termed it. Stabilization of the economy can
only occur through creation of jobs, improving education and our
energy base, and increasing exports.
The trade deficit that occurs each year, generally at an
increasing dollar amount is the primary driver of U.S. international
debt. The relationship the between the U.S. and China is a complex one
that creates an interdependency between two very different countries.
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A complicating feature of this relationship is the Chinese insistence on
tying the value of their currency to that of the dollar, artificially
reducing the price of Chinese imports into the U.S. The result is that
China continues to purchase U.S. debt, though recently at a decreasing
rate, and Americans continue to import low cost Chinese goods. This
cycle illustrates the great difficulty resolving the issue of the world’s
largest debtor nation.
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