America’s Fiscal Frontier, Part III: The Monetary Soul of Empire

The economic recovery of Western Europe and Japan, coupled with the U.S. war in Vietnam, weakened America’s global position and placed great strain on the post-World War II international order. Rather than ask the American people to sacrifice as the price of global leadership, the Johnson and Nixon administrations opted for the politically more palatable path of blaming foreigners for America’s woes and declining to play by the international rules it had previously insisted upon. Since the “Nixon Shock” of 1971, the United States has endeavored ever less to live within financial limits and relied ever more on money creation and/or borrowing as a way to avoid reckoning with its internal tensions.

While the Federal Reserve pursued a tight monetary policy in the 1980s to bring the inflation of the 1970s to an end, the Reagan administration adopted a loose fiscal policy. To justify its commitment to tax cuts, the Reagan administration promoted the cluster of theories known as “supply-side” economics. These promised that Americans could have their cake and eat it too: they could enjoy tax cuts without increasing the deficit, because the tax cuts would spur so much economic growth that lower tax rates would still net higher revenues. This theory was not new; since World War II, a bipartisan consensus had developed about the desirability of tax cuts to stimulate economic growth. But supply-siders redefined the politics of growth. Instead of an activist Keynesian state pursuing growth towards the liberal ends of full employment and broadly shared wealth, supply-siders offered an anti-statist vision of neoliberal growth—one which, like the preceding New Deal order, had appeal across the political spectrum.¹

The U.S. economy did indeed grow moderately faster during the 1980s, a fact which supply-siders were keen to credit to Reagan’s 1981 tax cuts rather than to other factors, such as the growth of international trade stimulated by globalization, increases in worker productivity due to technological innovations, or the entry of baby boomers into the labor force. But government revenue, suppressed by the tax cuts, grew less than supply-siders had predicted. Accordingly, the administration turned to borrowing to pay for its defense build-up. Because the U.S. economy grew along with deficits, the deficit as a percentage of GDP was only marginally higher when Reagan left office as when he had entered. Nonetheless, the underlying pattern remained the same: where Johnson had avoided bringing the real costs of the Vietnam War home to the American people, Reagan avoided bringing the real costs of the defense build-up home to them by borrowing, instead of raising taxes.

The Reagan deficits reversed the ostensible politics of fiscal looseness. Since the advent of Keynesian ideas during the Great Depression, deficit spending had been associated with the redistributive welfare policies of the political Left—even though the Left had used deficit spending for butter as well as guns, and the Right’s commitment to fiscal orthodoxy had always contained exceptions. But it was the Reagan administration that laid the groundwork for turning the exceptions into the rule, by defining a new association between deficit spending on the one hand, and defense and the political right, on the other.

Historical contingency delayed the implementation of the new rule. Rather than follow in Reagan’s footsteps, George H. W. Bush and Bill Clinton pursued relatively tight fiscal and monetary policies. In so doing, they benefited from the same double dividend that facilitated Truman’s and Eisenhower’s similarly tight policies: a “peace dividend” from the end of a major international conflict and a growth dividend from economic expansion. As was the case after World War II, the United States seemed once again to have found a neo-Jeffersonian escape from history’s political and economic cycles. The appearance of escape from the one type of cycle fed the appearance of escape from the other, and vice-versa. As the historian Carolyn Biltoft notes, “the ‘end of history’ hypothesis actually unfurled alongside macroeconomic doctrines that claimed to have put an end to crisis itself.”²

But history had not ended, nor had limits on American power. Instead, the double dividend ended, as it had in the late 1960s, with a dual geopolitical and financial crisis: the September 11 attacks and the War on Terror, and the 2007 financial crash. Confronted with these crises, George W. Bush reverted to Reagan’s playbook. Having cut taxes upon assuming office, Bush embarked on a policy of higher defense expenditures in response to September 11^th. From 2001 to 2002, that combination took the budget from a surplus of $130 billion to a deficit of $160 billion. The deficits only grew after the 2003 invasion of Iraq and another tax cut. They grew again in 2008, when the administration adopted a vast new spending program in response to the financial crisis.³

The Bush years also saw two important departures from (or additions to) the Reagan playbook. First, whereas the Fed in the Reagan years had pursued tight monetary policy alongside a loose fiscal policy, the Fed in the Bush years adopted an expansionary monetary policy when the financial crisis hit in 2007. Second, whereas Reagan’s defense spending passed through normal budgetary procedures, Bush’s spending on the wars in Iraq and Afghanistan mostly did not. Instead, the vast majority was funded through supplemental, emergency, or “Overseas Contingency Operations” bills outside the regular budgetary process.⁴ This irregularity both insulated spending on the wars from normal levels of scrutiny and practically ensured that they would be paid for by borrowing.

Barack Obama and Donald Trump continued Bush’s combination of monetary and fiscal expansion. The deficit shot up in Obama’s first term as his administration continued to boost spending in response to the financial crisis. Although it decreased in his second term, it remained higher than it had ever been during Bush’s time in office. Under Trump, the deficit climbed steadily and then sky-rocketed—more than tripling year-to-year—as Congress passed spending bills to keep the economy afloat during the pandemic. Meanwhile, throughout both their presidencies, the Federal Reserve pursued the expansionist monetary policy of “quantitative easing” that it had adopted after the 2007 financial crisis. In effect, Obama and Trump made permanent the states of fiscal and monetary emergency that Bush had established to cope with the War on Terror and the financial crisis. Thanks to the perception of emergency, the total federal debt has more than quintupled since 2001, officially going from roughly half of GDP to roughly 130 percent of GDP.⁵

Our Refusal to Set Priorities

In the wake of the Obama and Trump presidencies, neither major party possesses a remotely credible claim to be the party of fiscal or monetary discipline. The Left-most wing of the Democratic Party has forthrightly attempted to defend loose fiscal and monetary policy with Modern Monetary Theory (MMT). For the Republicans, although parts of Trump’s economic policy—such as his tax cuts and deregulation—represented a conventional pro-business Republican agenda at odds with his populist rhetoric, other parts came from the old Democratic playbook. Loose spending on “industrial policy” and on support for families is vital to retaining new elements of the Trump coalition, including Hispanics and those of the White working class who defected from the Democrats in 2016. Although the Right has not offered any formal doctrinal defense of Trumpist loose spending comparable to MMT, it no longer expends much energy trying to portray itself as the fiscally responsible alternative to the Left (except when a Democrat occupies the Oval Office).

It can be no mere coincidence that the abandonment of fiscal and monetary discipline across the political spectrum has occurred at the same time as a growing dysfunction in American politics. Culture-war issues have stoked the dysfunction and received much of the blame for it, but the sheer disproportionality of the intellectual and emotional energy they have absorbed relative to fiscal and monetary policy is itself a sign of dysfunction. This disproportionality both feeds and is fed by a failure to grasp the fundamental importance of the national budget and of making difficult choices.

The budget process reveals a nation’s soul like nothing else: When the budget process functions properly, it plays a crucial role in holding the nation together by serving as a clearinghouse where claims and counterclaims are made and settled. The act of settlement is an integrative process, sucking in a series of competing claims and spitting back out a single balance sheet, which represents a temporary, but real, consensus about national priorities. Negotiating that consensus requires the types of compromises and trade-offs that are the lifeblood of liberal-democratic politics. When the settlement of competing claims is foregone by postponement to the future—when a gap between revenues and expenditures is not closed by increasing the former or reducing the latter, but bridged by expanding the money supply and borrowing—so is the negotiation, and so is the integration. It is therefore unsurprising that as the balance sheet of the United States has crumpled, the country has been disintegrating.

The fiscal and monetary dysfunction ignored in favor of culture-war obsessions has deranged American politics more broadly in two distinct but related ways. First, the state-of-emergency thinking that has governed fiscal and monetary policy since 2001, and that has justified departures from ordinary procedure, has spread to other issues. Many Americans on both the Left and the Right now routinely see questions that might once have appeared as the normal stuff of politics as existential issues justifying extraordinary and even extra-constitutional responses. Second, the refusal to set priorities and make compromises in fiscal and monetary policy now characterizes Americans’ attitudes across a broad range of issues. They want everything they want immediately; they would rather have no bread than half a loaf.

This only-a-whole-loaf approach extends across generations. Americans’ fiscal and monetary choices for at least the past twenty years indicate that the present generation matters more to them than future generations, much as Americans’ imperial choices have communicated that Americans matter more than non-Americans. By behaving as though fiscal and monetary resources are unlimited—as though they have a right to expand these resources—they have relieved themselves of the need to make difficult decisions about national priorities, but at the cost of making the decisions to be made by future generations much more difficult. To add insult to injury, Americans today have made their largest claims on resources self-renewing, in the form of “mandatory” “entitlements” protected from the annual debate to which ever-shrinking “discretionary” expenditures are subjected.⁶

Much as the profligate consumption of the planet’s natural resources will leave future generations with less, so the consumption of the nation’s fiscal and monetary resources will leave future generations with less. Fiscally and monetarily, as environmentally, there is no sense of obligation to or stewardship on behalf of future generations. It was once a cornerstone of American ideals to make a better life for one’s children. No more. Now the kids are on their own.

This reduction of future generations’ sovereignty has required stories to camouflage its imperial character. MMT should be understood as one such story, even if inflation and interest-rate hikes have damaged its cachet. On the one hand, MMT devotees deny any similarity between natural resources and fiscal and monetary resources. Its supporters effectively draw a contrast between certain natural resources, like fossil fuels, which are real and scarce, and fiscal and monetary resources, which are artificial and therefore not scarce. Fiscal and monetary “scarcity,” in their view, is engineered to justify austerity policies that make the rich richer and the poor poorer. There is some merit to that critique—but it does not follow from the fact that because fiscal and monetary policy is man-made, fiscal and monetary resources are inherently limitless.

On the other hand, devotees of MMT—many of whom also support the Green New Deal—accept the analogy between the fiscal-monetary and the natural worlds but replace scarce fossil fuels with abundant renewables. Wind and solar supply the energy for their perpetual-motion printing press. But renewables have their own reliance on finite resources (like rare earths) and environmentally destructive practices (like deep-ocean mining). Advocates of “de-growth” at least have the virtue of honesty, in that they do not promise to escape thermodynamic laws either metaphorically or empirically.⁷

Moreover, when MMT is read as a chapter in the history of American expansion, one can see that its story about scarcity being fake does the same work as past imperial stories. Namely, it writes the victims of empire—in this case, future generations—out of the story by denying that they are victims or that U.S. policy is imperial. Since scarcity is unreal, MMT says, there will be plenty left for future generations. We in the present can have what we want without hurting our children, just as Americans could have Western land without hurting Native Americans or economic control of foreign nations without hurting their populations. MMT, in this view, is simply a repackaging of the old American myths of innocence and abundance.

Looking to the Future

Ultimately, the limit on U.S. fiscal and monetary resources derives from a limit to American empire: the federal government is unable to compel foreigners to hold dollars. It has sovereign power over its debt and money supply, but not across the whole globe. What is more, such power as it does have is declining.⁸ In that sense, theories like MMT are out of date; they are built for the halcyon world of the 1950s, not for the world of 2023. In extremis, the United States could try to use its sovereign power to compel its own citizens to hold dollars, but it cannot compel foreigners (who hold roughly one third of U.S. debt) to do so.

Foreigners’ willingness to hold dollars depends on their confidence that the dollar will maintain its value. The maintenance of value does not occur in a vacuum, and for the time being, the best thing the dollar has going for it is that it looks like the least bad bet relative to other currencies. The only other currencies backed by sufficient economic power to pose any conceivable threat to the dollar are the Euro and the yuan (the pound sterling and the Swiss franc are too small). Fortunately for the United States, the European Union and China are perceived as even more dysfunctional and untrustworthy than it is—at least for now.

For how much longer the United States and its mighty dollar will remain the least bad option is another question. The pressures on U.S. fiscal and monetary resources are large and growing. Already, federal expenditures in discretionary categories—including defense, education, and infrastructure, which require annual appropriations from Congress—account for less than a third of total federal expenditures. In 2019, mandatory expenditures, mainly on Social Security and Medicare, accounted for 61 percent of total federal expenditures, while servicing the debt accounted for 9 percent.⁹ From 2020 on, COVID-related spending has shifted the balance even further towards mandatory spending.¹⁰ Moreover, even before the Fed’s recent interest-rate hikes, debt-service charges were expected to rise, to the point of exceeding defense spending by 2024.¹¹ The Congressional Budget Office predicts that mandatory spending on Social Security and Medicare, as well as the cost of servicing the debt, will continue to rise over the coming decades.¹² Increases in these categories of federal spending will tend to limit the fiscal and monetary resources that can be devoted to discretionary spending.

As room for discretionary spending shrinks, demand for it will grow, for at least three reasons. First, the U.S. Navy, which is the most important combatant arm in the confrontation with China, is aging. Five of its eleven active carriers were commissioned within a fifteen-year period during the 1970s and 1980s, meaning that the Navy confronts block obsolescence within the nation’s principal instrument for overseas power projection. The story is similar for its submarine force. On top of this, the Navy has stunningly little to show for the expenditure of billions of dollars over the past two decades. Second, climate change will continue to cause flooding, fires, and other extreme weather events that will render once habitable areas of the United States less habitable. Homeowners, along with state and local governments, already expect insurance subsidies and resettlement assistance from the federal government, and their pleas for money will only grow. Third, numerous states have under-funded their pension systems. At the end of the first quarter of 2022, despite a better-than-average year in 2021, the estimated gap between promised benefits and actual revenue more or less matched the Pentagon’s annual budget.¹³ After a bad year in 2022, the estimated shortfall is approaching twice the size of the Pentagon budget.¹⁴ The states will also look to the federal government for relief. If some banks are too big to fail, what about some U.S. states?

These pressures on the dollar will coincide with the intensification of the first peer-competitor challenge to the United States since the decline of the British Empire. Unlike the Soviet Union, China is an economic as well as a military powerhouse. Much as the United States once did vis-à-vis Britain, China is attempting to replicate U.S. power across a broad range of fronts: building a navy, investing overseas, developing a financial services industry (including a payments-clearing system), growing its merchant marine, importing foreign technology by fair means or foul, and brokering peace in the Middle East. Moreover, China is bent on seeing the yuan dethrone the dollar as the world’s premier reserve currency.¹⁵

Whether China could ever displace the United States, of course, remains to be seen. It has enormous problems of its own, especially if the latest demographic figures are correct.¹⁶ But even if China does not ultimately succeed, the challenge it has mounted to the United States will continue to weaken the status of the dollar. In effect, China combines the military challenge from the Soviet Union with the economic challenge from Western Europe and Japan beginning in the late 1960s. Much as those combined challenges threatened to close the frontier for the United States, so China threatens to close the frontier today. The United States will have to pay more to preserve its lead in the global power rankings. Territorially and commercially, it can neither expand nor maintain its presence where it expanded previously—such as the Western Pacific—without powerful resistance.

The analogy to the late 1960s and 1970s extends further. Now, as then, the United States has relied on loose fiscal and monetary policy to avoid confronting the full cost of its chosen policies. Now, as then, loose fiscal and monetary policy has led to high inflation. Now, as then, sclerotic U.S. manufacturers are facing stiff foreign competition and complaining about “unfair” foreign practices. Now, as then, tariffs have been imposed to placate them. The closing of the frontier has brought into the open the domestic tensions that fiscal and monetary expansion obscured. Americans disliked being confronted with those tensions in the 1970s, and they do not like it now. And in contrast to the 1980s, when economic growth fueled by globalization and productivity increases stabilized the growth of deficits as a percentage of GDP, the U.S. economy is experiencing low growth or stagnation, with the result that growing deficits are sharply increasing as a percentage of GDP. Unable to externalize its problems as before, the United States faces the prospect of crumbling from within.

The Imperial Gamble

When viewing the United States from the outside in, the saying that what unites us as Americans is greater than what divides us carries much merit. Our passports list our citizenship, not our political affiliation. Seen from abroad, our disagreements pale in the face of one dominant similarity: we have the great privilege of being American. The preeminent perk of being American is enjoying the benefits of control over and consumption of the world’s largest share of scarce and finite resources, backed by the world’s largest military. Access to those resources renders Americans’ domestic disputes less acute than they would otherwise be. Yet still Americans want more.

This is not a Left versus Right issue. The whole American political spectrum has become deeply invested in expansionary fiscal and monetary policy, much as Americans of all political stripes have been invested in U.S. empire. The 1916 Revenue Act established this cross-party investment by politically intertwining the welfare state and the warfare state, and they have only grown more intertwined since. To be politically viable, any agreement to rein in fiscal expansion or to further reduce monetary expansion would require both Left and Right to make sacrifices. These would need to be genuine sacrifices, not like the “sacrifices” made in the 2018 budget “compromise,” when each side gallantly agreed to let the other side have what it wanted, leading to an increase in both welfare and defense spending (and the debt)—and a corresponding decrease in policy flexibility for future Americans.

Historians cannot answer whether the United States can continue a loose fiscal policy indefinitely. What they can do is point to common patterns of thought between advocates of American empire in the past and advocates of loose fiscal policy today. On the one hand, the latter are playing God with the lives of future Americans much as the former played God with the lives of non-Americans. On the other hand, the belief that non-Americans will always be happy to hold dollars bears some resemblance to the belief that non-Americans would always welcome “liberation” by Americans—a “liberation” which they frequently experienced as empire. Underlying both is the same imperialistic sense of entitlement to have non-Americans bail Americans out. What exactly is in it for foreigners to hold dollars that Americans refuse to protect the value of? What service (like security) is the United States willing and able to provide for them? Why should they make sacrifices that Americans will not make themselves?

The answer may be that the dollar remains the least bad option, and the United States wins by default. But betting on remaining the least bad option is dangerous, especially when many countries desperately want to see a credible alternative to American hegemony—less because they like China than because they dislike the United States. Moreover, the danger is one that Americans might not have time to confront before it is too late. International capital markets and the U.S. debt are complex, dynamic systems, meaning that it would not necessarily require a large change to trigger a large response. In such systems, small changes can cause cascade effects, rapidly triggering systemic crisis. Simple, static systems generate timely, polite warnings of impending crisis. Complex, dynamic systems generate sudden cliffs. Once the confidence that underpins the operation of a fragile system goes, the whole system goes.

In sum, the United States’ expansionary fiscal and monetary policy is risky in the ways that empire is always risky. Its survival depends on foreigners perceiving their self-interest to align with that of the imperial power. It involves playing with forces that the imperial power does not understand and cannot control.

The inflation hawks were wrong until they were right. The fiscal hawks have not been right yet, but that does not mean they will be wrong forever. Does the United States wish to take that imperial gamble? If it fails, everything will come crashing down.

Katherine C. Epstein is associate professor of history at Rutgers University-Camden.

Image: The Charging Bull, by Arturo Di Modica, 1989, New York City. (Don Sniegowski)

America's Fiscal Frontier series by Katherine Epstein:

· Part I, The Foundations of Our Budgetary Dysfunction

· Part II, The Peace Dividend

· Part III, The Monetary Soul of Empire.

[1] Brownlee, Federal Taxation in America, 162–72; Collins, More, ch. 6 (esp. p. 186); Gerstle, The Rise and Fall of the Neoliberal Order, 98–106.

[2] Biltoft, “The Endless Accumulation of History in Financial Times,” History and Theory (June 2022), 335.

[3] See OMB Historical Table 1.1, “Summary of Receipts, Outlays, and Surpluses or Deficits (-): 1789–2028,” https://www.whitehouse.gov/omb/budget/historical-tables/.

[4] David Glaudemans, “Supplemental Appropriations: The Pentagon’s Ticket to Unchecked Spending,” Stimson Center (28 March 2008), http://www.stimson.org/2008/supplemental-appropriations-the-pentagons-ticket-to-unchecked-spending; Amy Belasco, “The Cost of Iraq, Afghanistan, and Other Global War on Terror Operations Since 9/11,” Congressional Research Service (29 March 2011), p. 5.

[5] Debt at end of 2001 = $5,769,881,000 (54.8% of GDP).  Debt currently (as of April 2023) over $31 trillion (roughly 130% of GDP).  See OMB Historical Table 7.1, “Federal Debt at the End of the Year: 1940–2028,”  https://www.whitehouse.gov/omb/budget/historical-tables/.

[6] Eugene Steuerle, Dead Men Ruling: How to Restore Fiscal Freedom and Rescue Our Future (Century Foundation Press, 2014).

[7] Daniel Immerwahr, “Growth vs. the Climate,” Dissent (Spring 2015); Macekura, The Mismeasure of Progress, 96–102.

[8] See here Daniel Sargent, “Pax Americana: Sketches for an Undiplomatic History,” Diplomatic History (2018).

[9] Congressional Budget Office, “The Federal Budget in 2019: An Infographic,” 15 April 2020, https://www.cbo.gov/publication/56324.

[10] Congressional Budget Office, “The Federal Budget in Fiscal Year 2020: An Infographic,” 30 April 2021, https://www.cbo.gov/publication/57170.

[11] Committee for a Responsible Federal Budget, “As Debt Rises, Interest Costs Could Top $1 Trillion,” 13 February 2019, https://www.crfb.org/blogs/debt-rises-interest-costs-could-top-1-trillion.

[12] Congressional Budget Office, “The 2021 Long-Term Budget Outlook,” March 2021, https://www.cbo.gov/publication/57038.

[13] Rebecca Sielman and Richard Gordon, “Public Pension Funding Index, 1^st Quarter 2022,” 20 May 2022, https://us.milliman.com/en/insight/public-pension-funding-index-1st-quarter-2022.

[14] Andy Castillo, “Average funded status of local, state retirement systems declined 6% in 2022,” 9 January 2023, https://www.americancityandcounty.com/2023/01/09/average-funded-status-of-local-state-retirement-systems-declined-6-in-2022/.

[15] Rush Doshi, “China’s Ten-Year Struggle against U.S. Financial Power,” National Bureau of Asian Research (6 January 2020), https://www.nbr.org/publication/chinas-ten-year-struggle-against-u-s-financial-power/.

[16] Niall Ferguson, “China’s Demographics Spell Decline not Domination,” Bloomberg (14 August 2022), https://www.bloomberg.com/opinion/articles/2022-08-14/niall-ferguson-demographics-are-a-us-headache-but-nightmare-for-china.