What Could Go Wrong in 2005?

In his 1849 novel, Les Guepes, Alphonse Karr penned the classic line: "The more things change, the more they stay the same." In the case of the United States in 2005, however, the opposite might be true: The more things stay the same, the more they are likely to change...for the worse. In that regard, compiling a list of potential threats to the U.S. this year has a strangely déjà-vu-all-over-again feeling. After all, such a list would represent nothing more than a longstanding catalogue of economic policy-making run amok. Virtually the same list could have been drawn up in 2004, or 2003, or previous years.

Such threats would include: a persistent and increasing resort to debt-financed growth and a concomitant, growing imbalance in the trade deficit, leading the U.S. ever further into financial dependency and so leaving it dangerously indebted to rival nations, which could (at least theoretically) pull the plug at any time. This, in turn, is occurring against the backdrop of an increasingly problematic, Vietnam-style quagmire in Iraq, against imperial overstretch, and against a related ongoing crisis in energy prices, itself spurring an ever more frantic competition for energy security, which will surely intensify existing global and regional rivalries.

Just as a haystack soaked in kerosene will appear relatively benign until somebody strikes a match; so too, although America's longstanding economic problems have not yet led to financial Armageddon, this in no way invalidates the threat ultimately posed. For economy watchers in 2005, the key, of course, is to imagine which event (or combination of them) might represent the match that could set this "haystack" alight – if there is indeed one "event" which has the capability of precipitating the bursting of a historically unprecedented credit bubble.

The odd thing about credit bubbles is that they have no determined resolution, nor is there anything about such a dynamic that specifies the path by which it will be reversed; nor is there some specific level of financial excess guaranteed to eventually put an end to it. The beginning of that end could potentially be set off at any level at any time. Nevertheless, it is possible to sketch out several scenarios which could conceivably, in the eleven months left to 2005, trigger such a reversal or even something approaching economic collapse.

Debt: A Policy on Steroids

The Achilles heel of the American economy is certainly debt. It is generally assumed that increases in credit stimulate consumer demand. In the short run that is true, but the long run is another matter altogether. When debt levels are as high as those the U.S. is carrying today, further increases in debt created by credit expansion can come to act as a burden on demand. Signs of this are already in the air – or rather in what has been, by historic standards, only feeble economic growth in the U.S. economy over George Bush's first term in office.

Think of the present mountain of national debt as the policy equivalent of steroids. It has so far managed to create a reasonably flattering picture of economic prosperity, much as steroid use in baseball has flattered the batting averages of some of game's stars over the past decade. But unlike major league baseball, forced to act by scandal and Senate threats, America's monetary and financial officials still refuse to implement policies designed to curb the growth of a steroidal debt burden. If anything, addiction has set in and policy has increasingly appeared designed to encourage ever larger doses of indebtedness. Each bailout or promise of a government safety net has only led to more of the same: the Penn Central crisis; the Chrysler and Lockheed bailouts; the rescue of much of the savings and loan as well as commercial banking system in the early 1990's; the 1998 bailout of the hedge fund Long Term Capital Management; and the persistent reluctance of U.S. officials to regulate the country's increasingly speculative financial system, which has led not only to fiascos like Enron – the 21st century poster child for what ails the U.S. economy – but speaks to the dangers of excessive debt, corrupt financial practices, highly dubious accounting and endless conflicts of interest.