In recent years, the US has been able to run substantial budget and trade deficits without paying higher costs for pursuing either its lax fiscal policy or over-consumption. In fact, the US is not alone in terms of this behavior.

Other advanced economies have also faced fundamental budget and external trade imbalances that one would think were not sustainable in the long run.

Nonetheless, the eagerness of foreign governments and the private sector to continue to purchase escalating U.S. government debt can be somewhat baffling.

One would think that a current account deficit cannot be sustained forever since it implies that too much domestic consumption today will result in chronic debts for future generations of Americans.

Very few investors worry about the “sustainability” of the U.S. current account deficit and U.S. international indebtedness because the attractiveness of the US dollar has always outshined other currencies.

For example, it wasn’t too many years ago that some Canadian economists foolishly argued that Canada should adopt the US dollar and eliminate its own currency.

It seems in both good times and bad, the US dollar is the closest we have to a global currency.

It was once assumed that the only global currency was gold. Yet for some time now, the US dollar has replaced gold bullion as the reserve currency.

For some time, it was thought that either the Euro or the Japanese Yen would gradually replace the dollar as the most important reserve currency. This hasn’t happened despite the huge American run-up in government debt and its large current account trade deficit.

Of course, there is a linkage between the size of government deficits and a country’s current account trade balances.

(The current account is part of the overall balance of payments (BOP) statement of current international transactions. The current account is divided into four sections: goods, services, income (such as salaries and investment income) and unilateral transfers.)

When the US current account is in deficit which is currently the case, it means that the US is investing more abroad than it is saving at home.

In other words, the US current account deficit implies that the country is living on borrowed funds. Other countries are essentially financing the US economy, and hence sustaining both the budget deficit and the trade deficit.

Ultimately, a current-account deficit represents a country selling off its assets (such as shares in UK companies, UK bonds, or property), or incurring overseas debts.

There is, of course, a linkage between a government’s fiscal deficit and the current account trade deficit.

Standard macroeconomic theory points to how a budget deficit can be a contributing factor to a current account deficit. When a government runs a fiscal deficit, it borrows directly from the domestic credit market and then from foreign sources.

The essence of this is that if foreigners' savings pay for the American budget deficit, the current account trade deficit expands.

The following three charts relate to this conundrum.

The first chart highlights the huge expansion in US government debt since 2009. US government debt rose to an all-time high of $21,982,423 USD millions as of January of 2019.

The second chart traces the size of US federal debt to GDP and highlights the relatively low cost paid to service that debt. The United States recorded a government debt equivalent to 105.4% of the country's GDP in 2017.

The third chart traces the US current account deficit relative to GDP, and that ratio currently stands at about 3%.  

US Government Debt Has Soared Since 2009 

US Government Debt As % Of GDP

(Click on image to enlarge)