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Don’t be fooled – America’s finances are just as perilous as Britain’s

There is every chance that whoever wins the next presidential election will take a similar attitude to the budget deficit as the one espoused by President Reagan in 1986 when he famously said: “The deficit is big enough to take care of itself.”

Now the deficit is larger than it was when President Reagan uttered these remarks and the debt to GDP ratio is much higher. Meanwhile, the signs of rupture in the political culture following Donald Trump’s legal woes continue to cause worries about what may lie ahead.

This is the background to the recent downgrade of America’s credit rating by Fitch, which led to a chorus of protests by many Democrat-leaning economists. It is true that credit rating downgrades can be quixotic and often don’t have much impact on the markets. This one didn’t seem to cut much ice.

Instead, market practitioners were more concerned with the signs of strength in the US economy and the implications for both inflation and interest rates.

Moreover, because of its size and the role of the dollar as the world’s currency, America can get away with things that Britain can’t. And in both cases, the bond markets don’t have to worry about default since both countries issue the currency in which their debt is denominated.

Even so, markets have to worry about implicit default, that is to say the devaluation of claims on the government through the process of continuous inflation. In regard to the pressures on the deficit and potential worries for the debt markets, the US position seems as serious as the UK’s.

Roger Bootle is senior independent adviser to Capital Economics

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