Iran War pushes debt to dangerous level

 

Iran War pushes debt to dangerous level

Tariffs lead others to avoid U.S.

 

Gordon L. Weil

Americans are getting richer and poorer at the same time.

Last year’s changes to the federal income tax have brought lower taxes for many, showing up in their refund checks.  This year’s Iran war has created shortages.  Coupled with the effects of tariff policy, they push consumer and business prices higher.  Some economists calculate that the increased cost of gasoline exceeds the tax refunds.

Inflation is growing.  President Trump’s quest to have the Federal Reserve lower interest rates to promote growth would serve to boost it even more.  Even if he can remove Jerome Powell as Fed chair, its rate-setters probably won’t agree to a cut; they may even raise rates.

The national debt grows.  Tax cuts have been funded by both reducing programs and increasing borrowing.  Debt is the present borrowing from the future.

The International Monetary Fund, a worldwide financial agency, neutral on political issues, published its annual outlook last week.   Its view of the world’s economy reveals much the same concerns as exist in the U.S.

Two major forces are shaping the economy now, and they may have long-term effects. Both are made in the U.S.A. and especially in the White House:  the new tariff system and the U.S.-Israel war in Iran. 

The new tariff regime was quickly installed and is now resulting in entirely new trade patterns rapidly developing among nations.  The war has spread in the Middle East, impacts China and Japan, and drives up worldwide oil and gas prices.

While the Iran war has brought increased defense spending, that provides only limited help to the economy.  Unlike much other spending whose effect is multiplied as it flows through commerce, military outlays are consumed on the battlefield with much less of a multiplier.  Other elements of domestic production are reduced, and the debt grows.

For the IMF, much depends on how long the war continues.  The current ceasefire could be extended, though Israel may be reluctant to end the conflict.  If not, the war’s economic impact could “mean a close call for a global recession.”  It would take at least a couple of years to recover.

What about world trade?  Will the U.S. allow tariffs to stabilize, based on real economic justification?   New trade patterns are emerging that could revive commerce, though the American role would not remain the same.

American trade has declined with China and Canada, the two countries that retaliated against U.S. tariff increases.  U.S. trade shifted to Taiwan, Vietnam and Mexico.  China, setting a record in the export of its goods in 2025, focused on Asia and Europe.   Canada created new links with them as well, and it’s unlikely that these links will later unwind.

If Trump resumes raising tariffs on short notice for political reasons, the uncertainty will have an economic impact.  His moves would encourage other nations to continue orienting their trade away from the U.S.  The World Trade Organization, designed to keep trade fair and free and now largely ignored by the U.S. and China, will disappear.

One big question mark is the effect of artificial intelligence.  It may produce productivity improvement that could offset some of the negative impacts of the Iran war.   Much would depend on where and when these gains occur.  The IMF assumes its growth could be beneficial, but does not deal with concerns about its increasingly worrisome effects.

The U.S. remains the world’s dominant economy in the IMF’s current view.  Rather than allowing the private sector to retain its influence, the federal government asserts its ability to direct the economy, going beyond fiscal policy, to economic investment and even increasing its role in monetary policy.

But its influence is sure to decrease as other countries seek to develop more stable relationships.  The U.S. will continue to be an importer and its producers will want foreign markets, but its global position will be reduced.

The worst is yet to come. The national debt is about $39 trillion, far more than GDP, and steadily increasing.  Its annual servicing cost is now higher than military spending. 

The Trump administration won’t estimate the cost of the Iran war, though it is hundreds of billions of dollars.  Without a congressionally funded appropriation, most of the cost will be added to this year’s deficit and to the national debt.

The dollar is the world’s standard reserve currency.  In 1933, the U.S. killed the gold standard, the previous reserve, replacing it with a devalued dollar, backed by the American economy.

National debt payments could swamp the budget, surpassing the ability of future generations to pay it off.  The dollar would have to be devalued again, so that debt could be repaid in cheaper dollars.  Seeing this grim future, the world will gradually abandon the dollar as the stable reserve currency, and America’s last dominant power will be gone.