WASHINGTON (CBS.MW) -- Excessive government deficits in the U.S. could threaten the health of the American and global economies, the International Monetary Fund warned Wednesday.
Large fiscal deficits might place upward pressure on interest rates, deter private investment, impede long-term productivity growth, endanger the vitality of Social Security and Medicare programs, and slow growth in the rest of the world, the IMF said in a special report.
"Increases in U.S. public debt can have significant impacts on global interest rates," said Christopher Towe, an assistant director at the IMF.
Global investors are already getting nervous about the U.S. fiscal condition, reflected in the deteriorating value of the dollar, IMF officials said.
"There is some risk of a disorderly situation emerging in which you could have a rapid movement in exchange rates that could have an impact on asset prices and equity prices in the United States and equity prices abroad," said Charles Collyns, a deputy director for the IMF.
The fund argued that continuing budget deficits would boost real interest rates, effectively crowding out private sector investment as savings flow into government securities. With less investment in the private sector, national productivity would diminish in the long run.
In a speech to business leaders Wednesday, Treasury Secretary John Snow said the federal deficit was "entirely manageable" and repeated the Bush administration's promise to cut the deficit in half.
Democrats have argued that the administration's tax cuts, while providing needed short-term stimulus to the economy, will become a drag on growth in the long run.
In a conference call with reporters, Collyns agreed with Snow that the current fiscal deficit is manageable and even welcome while agreeing with Democrats that mounting debt over time will make it more difficult to fund the retirement of the baby boom generation in the next few decades.
"Higher U.S. fiscal deficits means that debt will not be brought down as had previously been envisaged, making the impact of an aging population on Social Security and health care programs even more difficult to deal with," Collyns said.
The report claims that both Social Security and Medicare are likely to run sizable deficits in 10 years when the baby-boomer retirements hit their peak.
The IMF report also found that higher fiscal deficits and public debt in one country tend to absorb global savings, increasing world interest rates, encouraging investors to leave their money in nonproductive assets and lowering global productivity. Simulations conducted at the IMF suggest that a 15 percentage point increase in the U.S. public debt ratio over the next 10 years could raise real interest rates in industrial countries by as much as one percentage point.
The United States is unique in its ability to finance large fiscal deficits by attracting large amounts of foreign investment.
However, the report raised the concern that the United States' growing fiscal and current accounts deficits could put significant pressure on the U.S. dollar.
"The large current account deficit implies that the United States has a need for continuing inflows of foreign financing, and as long as those funds are willing to come in, things can move fairly smoothly, but the reality is that the magnitude of the current account deficit is very large and that the net external liabilities of the United States are rising quite rapidly relative to both U.S. GDP and relative also to global savings," Towe said.
International investors could lose some confidence in the dollar, and, as a result, might invest elsewhere, affecting the United States ability to fund its deficits, Collyns said.
Countries receiving debt relief packages from the IMF must almost always listen to the IMF's recommendations as part of fiscal restructuring measures. However, the IMF report has no official impact on U.S. budget debates.
According to the report, about half the budget reversal for fiscal years 2002 and 2003 was caused by diminishing personal income tax collections, growth in payments for income support, and significant decreases in capital gains tax revenues. A quarter of the overall fiscal turnaround was attributed to a growth in discretionary spending; increasing from 6.25 percent in fiscal year 2000 to an expected 7.25 percent in 2003. Tax cuts were held responsible for the remaining quarter of the fiscal decline.
"The basic message we have is that it will be important to take actions across a full range of areas, both on the spending side and on the revenue side," said Collyns. "There's no magic bullet that will solve the deficit problem, whether energy taxes or any other area."