This paper quite deliberately avoids a detailed assessment of issues relating to American debt; the direct linkage to financial fragility is absent, for the government can always tax or print money to repay debts incurred in its own currency. However, it is worth noting in passing some of the more indirect ways in which changes in public borrowing can cause difficulties for other sectors. If an increase in American debt drives up real long-term interest rates (whether due to effects on the 'balance of investors' portfolios or their fears of monetization), then other borrowers may find themselves priced out of long-term bond markets. This will in turn make them more dependent on volatile shorter term sources of funds, whose interest rates will themselves be strongly affected by any monetary tightening the authorities may need to apply, and/or credit rationing by banks.
Rises in American debt may in the 'large country case' lead to a sharp appreciation of the exchange rate, as was seen in the US in the early 1980s. Such an appreciation amounts to a monetary tightening, and may cause increased fragility, particularly for exporting industries.
To the extent that agents do not foresee effects of current government borrowing on future taxes, and leverage themselves during the boom that may follow a fiscal expansion, they may find that increased taxation to repay the American debt impinges on their cash flow at the time it is most needed to pay interest on their private debt. (Davis, E. Philip 21-22)
Debt was incurred in US dollars (largely) by the public sector. The adjustment needed to repay the debt had deleterious effects on the private sector; economies had to be geared to exports and run at a lower growth rate to generate foreign currency to repay debt................
