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June 18, 2010 Reading Time: < 1 minute

In a Wall Street Journal op-ed, former Fed Chairman Alan Greenspan warns of U.S. fiscal profligacy, in part fuelled by the current low borrowing costs of the government:

“Despite the surge in federal debt to the public during the past 18 months—to $8.6 trillion from $5.5 trillion—inflation and long-term interest rates, the typical symptoms of fiscal excess, have remained remarkably subdued. This is regrettable, because it is fostering a sense of complacency that can have dire consequences.”

Because interest rates are low, the government can continue its spending spree temporarily, but this will only lead to a worse fiscal crisis later on. Thus, market signals are not disciplining the Treasury, in contrast to European countries such as Greece.

“With huge deficits currently having no evident effect on either inflation or long-term interest rates, the budget constraints of the past are missing. It is little comfort that the dollar is still the least worst of the major fiat currencies. But the inexorable rise in the price of gold indicates a large number of investors are seeking a safe haven beyond fiat currencies.”

However, in the long run, interest rates on bonds and other long-term securities will rise. This could happen suddenly, thus raising the borrowing costs of the government as well as the private sector:

“I grant that low long-term interest rates could continue for months, or even well into next year. But just as easily, long-term rate increases can emerge with unexpected suddenness.”

Marius Gustavson

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