With respect to the U.S. fiscal situation, one should not focus strictly on external debt relative to GDP. In their seminal book, This Time is Different (Princeton University Press, 2009), Carmen M. Reinhart and Kenneth S. Rogoff offer three key points:
• Having a complete picture of government indebtedness is critical, for there is no meaningful external debt sustainability exercise that does not take into account the magnitude and features of outstanding domestic government debt, ideally including contingent liabilities.
• Debt sustainability exercises must be based on plausible scenarios for economic performance, because the evidence offers little support for the view that countries simply “grow out” of their debts. This observation may limit the options for governments that have inherited high levels of debt. Simply put, they must factor in the possibility of “sudden stops” in capital flows, for these are a recurrent phenomenon for all but the very largest economies in the world.
• The inflationary risks to monetary policy frameworks (whether the exchange rate is fixed or flexible) also seem to be linked in important ways to the levels of domestic debt. Many governments have succumbed to the temptation to inflate away domestic debt.