This week on Facing the Future, host Bob Bixby spoke with Doug Elmendorf, former director of the Congressional Budget Office and current professor at Harvard’s Kennedy School of Government, about the complex interplay of economic forces shaping the United States today. Their conversation covered a broad range of topics, including the impact of artificial intelligence (AI) on the economy, fiscal policy challenges, rising interest rates, and the looming federal debt crisis.
Elmendorf began by addressing the AI boom, acknowledging its dual nature as both a source of economic optimism and uncertainty. He noted that AI had pushed up stock prices, creating a sense of increased wealth and spending among many Americans, which in turn helped the economy perform reasonably well. However, he cautioned, “Whether particular companies are worth the gazillion dollars that they seem to be worth at this moment, is not clear at all, and so the AI boom could go sideways, or go badly.” He emphasized that while AI’s influence on the future was undeniable, fiscal policy needed to adapt accordingly to support this technological transformation.
Turning to monetary policy, Elmendorf discussed the Federal Reserve’s cautious stance under its new chair, Kevin Warsh. He explained that Warsh had refrained from outlining exactly how he intended to manage interest rates or how he conceptualized the economy’s potential shocks, which left markets in a state of watchful anticipation. The conversation then shifted to the persistent uncertainty caused by trade tensions and tariffs. Elmendorf described the on-again, off-again tariff war as a source of economic distortion and unpredictability. He highlighted the risk this volatility posed not only to economic growth but also to job creation, noting that businesses struggled to plan effectively amid the shifting trade landscape.
A significant portion of the discussion focused on the federal government’s fiscal situation. Elmendorf painted a sobering picture of the nation’s fiscal health, pointing out that the government was running a budget deficit of roughly $2 trillion annually—about 6% of GDP—a scale of borrowing unseen outside of wartime or severe economic conditions. He warned that this level of borrowing was unsustainable and posed risks for the broader economy.
Elmendorf elaborated on the consequences of this heavy borrowing, explaining how it affected interest rates. He said, “The federal government says we want to borrow more and more and more, and they’ll pay what it takes to get the money, and so that’s going to tend to pull up interest rates.” This dynamic, he noted, was compounded by ambitious borrowing from AI companies investing in data centers and other infrastructure, creating competition for available capital.
Elmendorf observed that despite the tripling of federal debt relative to the economy over the past two decades, interest rates had not risen as much as one might expect. However, he said the rising interest rates since a few years ago were already impacting ordinary Americans. Elmendorf pointed out that higher rates increased borrowing costs for mortgages and business loans, making it more difficult for individuals and small businesses to access capital. He warned that if the government continued to “scarf up so much of this money to fund its own borrowing,” less would be left for private borrowing, which could slow economic growth.
The discussion also touched on recent moves by the Treasury Department to buy back some outstanding debt as a way to influence interest rates. Elmendorf expressed skepticism about the effectiveness of these measures, stating that while the Treasury’s buybacks caused a temporary dip in long-term interest rates, the effect was quickly reversed as markets adjusted to the overall scale of new debt issuance.
Elmendorf was candid about the difficult choices that lay ahead for fiscal policy. He stressed, “We need to recognize that the way we’re going to put the budget on a better path is to agree to tax ourselves more, and to cut back on some benefits and services that people actually like.” The prospect of a fiscal crisis loomed large, with Elmendorf describing the risk of a “debt spiral” where rising interest costs exacerbate deficits, creating a vicious cycle that would be hard to break without decisive action.
Reflecting on the political challenges, he recalled past moments of fiscal reckoning, such as the budget deal under President George H.W. Bush, which required bipartisan compromises to stabilize the nation’s finances. Elmendorf said that similar pragmatic solutions could be found today to prevent a larger meltdown.
They also discussed the demographic challenges facing the country, particularly the slowing growth of the labor force driven by declining birth rates and immigration restrictions. Elmendorf noted, “Within a few years, there will be fewer births than deaths of Americans. And so with no immigration at all, the population would start to decline in size.” He explained that this trend would strain social programs like Social Security, as fewer workers would be available to support a growing retiree population. “If you have lots fewer workers per older person, then something has to give. You’re going to have to have smaller benefits for older people, or larger taxes per working person,” Elmendorf said.
Despite these challenges, Elmendorf acknowledged the potential for AI and productivity growth to improve economic outcomes, though he cautioned against overestimating their impact on solving budget problems. He explained that higher productivity could lead to faster income growth and thus more tax revenue, but only if government spending and benefits did not expand proportionally. Political pressure to increase benefits or services could offset these gains.
In closing, Elmendorf addressed the generational dimensions of the issues discussed. He emphasized the responsibility of younger generations to engage actively in shaping policies to address these looming fiscal and economic challenges. “You gotta put your shoulder to the wheel now, and your generation has to step up, and has to step up in working, and has to step up in influencing policy makers,” he urged.
