Inflation concerns have triggered a sharp rise in interest rates,
and a fiscal crisis is inevitable, albeit not in the near term, according to a recent Piper Sandler research note. It outlines the measures needed to address the crisis: cutting Medicaid and Social Security, preserving and expanding the tax base, and reducing government borrowing.
All of these measures are unpopular across the political spectrum, and the company recommends investors assume that government action will likely be "weak or irresponsible."
The United States retains exceptional advantages: the dollar's status as a reserve currency, developed Treasury bond markets, significant fiscal capacity, military and geopolitical power, and the ability to stabilize markets through the Federal Reserve. Nevertheless, the possibility of a fiscal crisis in the United States is no longer considered a fringe idea among serious financial players.
Piper Sandler cites factors indicating a possible fiscal crisis including public debt exceeding 100% of GDP, an aging workforce, and social spending growing faster than GDP.
"Following the global financial crisis and the COVID pandemic, debt has soared, and the normalization of interest rates has led to a rapid increase in federal spending to service it... The current colossal deficit is being built against a backdrop of full employment and sky-high asset prices. The next recession—especially if accompanied by a stock market correction—could push the deficit to levels rarely seen," the analysts note.
Politicians' reactions to the growing debt burden are another sign that the US is in the early stages of a budget crisis. Piper Sandler believes the government is overly reliant on short-term Treasury bills to reduce ongoing debt servicing costs. President Trump is pressuring the Fed to lower rates, but this does not address the root causes of the country's budget problems.
The company doesn't believe that either the Democratic or Republican government will respond effectively to the budget crisis. Both parties are reluctant to cut spending with adequate compensation, are willing to remove millions of taxpayers from the income tax system, and are hesitant to cut Medicare and other social programs.
Any likely action by either government will likely lead to a budget crisis, tax increases, or both, analysts believe. Investors tend to think that divided government is good for the stock market—but this is only true when the market doesn't require any action from Washington.
Piper Sandler believes that if interest rates rise to levels that put significant pressure on the economy and the federal budget deficit, Congress will likely be forced to act. However, the likelihood that the measures taken will include the necessary "painful and unpopular compromises" that could actually strengthen financial market confidence is "almost inconceivable."
In any case, the company is unsure of the political establishment's ability to address the underlying causes of these problems.
Analysts are recording a decline in interest in responsible fiscal policy as the problem itself becomes more serious.