The world is careening toward a potentially devastating financial crisis, and the current state of US politics has left Washington dangerously ill-prepared to protect working families and the broader economy from the fallout, according to warnings from leading economists and former international financial officials.
A bona fide financial crisis has not broken out since the US housing meltdown 19 years ago, and even the Covid pandemic, the subsequent surge in inflation and the collapse of Silicon Valley Bank 3 years ago did not lead to financial upheaval. But financial markets and governments may believe they have acquired immunity at their peril. The world is careening toward a moment of financial upheaval that could dwarf the damage caused by the last one, experts warn.
The most frightening part is not the specific nature of the crisis but the incompetence with which it will be handled. Current US politics practically guarantee that Washington's response will be misguided, steered by Donald Trump's incontinent appetites and animosities. In a world where mistrust has strangled space for collective action, damages are likely to be compounded by similarly blinkered responses around the globe. Maurice Obstfeld, former chief economist at the International Monetary Fund, said: "The political fundamentals are really bad."
Multiple Pathways to Crisis
Several possible pathways to crisis exist. One is a financial bubble popping, with stocks buoyed by current euphoria over artificial intelligence being downgraded sharply if returns disappoint, sending the stock market tumbling, shrinking consumer spending and damaging the balance sheets of companies that have piled into the AI dream, as well as their financiers.
The largest risk revolves around the federal government's accumulation of debt, now in excess of 120% of the nation's gross domestic product, a near unprecedented level, and likely to keep growing at a fast clip because of massive built-in budget deficits for the next decade. A global context exists in which the US's appetite for capital to finance datacenters or the federal deficit is met by China's export of capital to recycle its huge trade surplus.
A win-win fix would be for China to spend more on its own stuff while Americans, especially the federal government, spent less, but this seems exceedingly unlikely given politics in Washington and Beijing. It is unclear what would detonate a sell-off of US government debt, though Treasury bonds still provide the largest, most liquid pool of safe investable assets. Markets were in a tizzy last week, sending rates on government bonds sharply higher over worries about the Iran war and inflation. On 3 April 1 year ago, Trump's tariffs on everything sent the price of treasury bonds briefly into a tailspin, evidence that Washington's increasingly idiosyncratic decisions could send investors running for the exit.
The Changed Investment Landscape
The world is not that of 15 years ago, when real interest rates neared zero and central banks in China and many developing countries held massive amounts of treasury bonds, providing a stable source of financing for US deficits. Today, investors buying treasuries want yield and diversification, and they will mercilessly dump US assets if the tide turns sour.
US politics can still do a lot of damage. Trump could bomb Iran again, invade Cuba or Greenland, take control of the Federal Reserve and strong-arm it to cut interest rates, or increase the deficit through military spending. He shows no concern over growing federal debt and Republicans in Congress show no interest in stopping him. Which of them will stand in the way of his appetites, given his ability to take down anyone who dares oppose him?
No Credible Plan in Sight
The closest anybody in government has come to a plan to address the nation's indebtedness was Scott Bessent, the US treasury secretary, who claimed AI will save the day by generating massive productivity growth and enormous tax revenues to fill the government's coffers. Nobody else has said a word.
If investors freak out and sell off treasuries, raising interest rates on government debt, Trump might strong-arm the Fed to buy the bonds and keep rates low. But pumping that money into the economy would stoke inflation, which would encourage more investors to flee for the exits, sending the dollar into a tailspin. The ideal strategy would be to close the hole in the federal budget. The Fed might force that path by refusing to print money and buy government debt, but Trump is unlikely to appreciate austerity and the odds are slim given his lock on Congress and increasing sway over the Fed.
Maurice Obstfeld said: "If you try to war game it, the Fed doesn't have any good options. The only good option is fiscal regime change in the Congress." That is not likely to happen.
France faces the unhelpful combination of a budget crisis and a looming election likely to bring to power a populist right wing that has much in common with Trump's Maga. China, meanwhile, may not face political instability, but it has shown little interest in helping address the imbalances contributing to the world's financial fragility, insisting on subsidizing manufactures for export in order to generate jobs.
When the crisis hits, international cooperation is unlikely to play much of a role because of the animosities Trump has worked so hard to kindle. The world is staring into an unprecedented future in which a financial crisis like the world has never seen invites the most self-defeating government response ever.
Why This Matters:
The warnings from former IMF officials and economists underscore how vulnerable working families and ordinary Americans are to the consequences of fiscal mismanagement and political dysfunction. When financial crises hit, it is not the wealthy who suffer most severely—they have diversified portfolios and resources to weather the storm. Instead, it is middle-class families who see their retirement savings evaporate, workers who lose their jobs as companies collapse, and communities that face devastating cuts to public services as government revenues plummet. The federal government's mounting debt burden, combined with political leadership that shows no interest in responsible fiscal management or protecting democratic institutions like the Federal Reserve's independence, threatens to trigger a crisis that could dwarf the 2007 housing meltdown. That crisis cost millions of Americans their homes and jobs. The absence of any credible plan to address these risks, and the erosion of international cooperation needed to manage global financial instability, means the safety nets and coordinated responses that helped limit damage in past crises may not be available when the next one strikes.