The history of America’s debt dates back to 1790, when Alexander Hamilton- now hailed “the father of America’s debt,” presented the Report on Public Credit to congress. It was here that “debt” was redefined into a vehicle necessary to drive America’s post-revolutionary economy. The essence was for the government to be in a permanent state of indebtedness to the people through government bonds to create investor confidence, which ensured that investors remained committed to the success of the government. However, given the original ideology of debt it seems that in 2011, all the debt seems to do is mount with no visible benefit. So where did all this go askew?

Hamilton envisioned government debt to be held by land-owning, white, American males. Simply put, the American debt was to be held by Americans. But in present day reality, the treasury owes $4.514trillion to foreigners, of which $1.435trillion is obligated to China, implying that $4trillion worth of foreign currency is flooding into the exchange market to purchase US securities. This results in a  depreciation of foreign currency in respect to the dollar, leading to its eventual appreciation. This in fact triggers a chain of economic reactions: Foreign imports become a more affordable commodity for Americans and the lower costs associated with a weaker foreign currency forces American firms to relocate assets on foreign soil to stay competitive. This produces a loss of jobs in the US as more jobs are moved abroad. In the long run, American industries becomes more reliant on foreign economies while domestic consumers switch to cheaper imports.

Stimulus packages rolled out by the US government starting in 2008 with the auto bailout, were designed to deal with the issues such as the unemployed and the loss of jobs to foreign competition. Ironically however, the bulk of fiscal spending is financed by bonds and securities with foreign claims. The results of the fiscal initiative were meagre and although held back the collapse of the automobile and financial sector, they seemed to just exacerbate US debt. To make things worse for the US, competitive foreign currency was a major catalyst for capital flight, a phenomenon which shocked the US aggregate supply as US industries simply moved abroad to compete. This coupled with faltering consumer and investment spending within the US caused by loss of jobs and the recession took a toll on the aggregate demand. This put the US in a peculiar fiscal trap. The cut down of fiscal policy would result in a decrease in aggregate demand joined with a supply shock resulting in a recession plus inflation, known as stagflation. But, a continuation in fiscal spending will only create a larger reliance on foreign debt, adding to the $14trillion deficit.

On August 6th S&P downgraded the US credit rating form AAA to AA+ on grounds of political disarray and the inability of the US government to successfully decrease deficit. The Obama administration quickly announced the following day the rollout plan for QE3 (Quantitative Easing 3), a process where financial assets are purchased to inject money into the ailing economy. It was an effort by the Obama administration to efficiently print more money. This came with a sigh of relief as it demonstrated that the US was far from defaulting but also came as a sign that QE3 could deter the strength of the dollar making each dollar worth less and adding to inflationary pressures.

The deficit leaves the US in a sticky situation. Printing money to cut deficit will result in inflation, whereas cutting government spending or raising taxes will simply make the recession worse. Furthermore, financial reliance on foreign governments excised American competitiveness in the world market. What seems to be the most promising solution seems to be  hidden in history with the father of debt- An en sync partnership of the Federal Reserve and government to increase transparency in policies to uplift the standing of monetary policy and raise investor confidence within the US, a change which must be made to ensure future economic success.