The world has never been in an oil crisis under such high debt levels! Economists: The United States is especially vulnerable.

Well-known economist Ruchir Sharma, chairman of Rockefeller International within the Global Investment Strategies division of Rockefeller Capital Management, said in a weekend article that the outcome of this U.S.-Iran war remains unclear, but the oil shock it has triggered has exposed a new kind of vulnerability in the global economy: the world has never before been pulled into a crisis while carrying such heavy debt, which makes the United States, even though it is the world’s largest oil producer, appear especially fragile.

In a commentary article published on Sunday, he warned that the lack of fiscal room has left governments burdened with debt with almost no ability to respond to the energy shock triggered by Trump’s war against Iran.

Sharma noted that the first oil crisis since World War II occurred in the 1970s, coinciding with the start of a new era: government budget deficits across countries shifted from “occasional” to “persistent.” But at the time, the typical deficit in the United States and other major countries was about 2% of GDP. Today, the average deficit has more than doubled, and the average level of government debt in the Group of Seven (G7) has risen from 20% of GDP to more than 100%.

Last year, the total global debt grew at the fastest pace since the COVID-19 pandemic, reaching a record $348 trillion, more than three times global GDP.

Sharma said that with one-fifth of the world’s oil and liquefied natural gas trapped in the Persian Gulf, governments are rushing to roll out price controls, rationing plans, and subsidy measures. But many governments lack fiscal resources, while bond investors are ready to punish any attempts at excessive spending.

“Long-term inflation expectations remain stable, but market concerns that an Iran oil shock will lead to further spending increases—combined with rapidly widening deficits and debt—is what is driving up the bond term premium,” Sharma wrote.

**This shock is already visible in the United States: **recent weakness in demand at U.S. Treasury auctions has forced yields higher than expected, highlighting investors’ concerns about the impact of the Iran war on deficits and debt.

Meanwhile, central banks around the world are also finding it difficult while trying to reduce inflation— the Federal Reserve has failed, for five straight years, to bring U.S. inflation down to its 2% target level, which affects the outlook for countering the economic slowdown caused by an oil shock through interest-rate cuts.

“The most fragile countries are those with the highest government debt and deficits, and where central banks have failed to achieve inflation targets: among developed nations, the most prominent are the United States and the United Kingdom; among emerging economies, the biggest risks are led by Brazil, Egypt, and Indonesia,” Sharma said.

He added that although the United States is the world’s largest oil producer, it also cannot escape the effects of a prolonged war, given that last year its near 6% annual budget deficit was the highest among developed countries.

Over the weekend, the Trump administration had planned to sharply increase annual defense spending by 50% to $1.5 trillion, which could make the U.S. debt outlook even more severe, since interest payments on all of its borrowing have already exceeded $1 trillion per year. Sharma estimates that, together with the recent tax cuts, this year’s fiscal deficit could reach 7% of GDP.

Trump previously said he expected the Iran war to last four to six weeks. But now the war is in its sixth week, and there are few signs that the conflict will end soon.

In fact, signs suggest the situation will escalate further—the U.S.-Iran war will last longer— with thousands of U.S. troops heading to the region; a third aircraft carrier is on the way; and the Pentagon is moving almost all of its JASSM-ER stealth cruise missile stockpile to the Middle East.

All of this will come at great cost. According to reports, after the U.S. military has exhausted much of its most expensive munitions and Iran’s attacks have damaged or destroyed U.S. aircraft, radar systems, and bases, the U.S. Department of Defense is seeking $200 billion in war funding from Congress.

In a report issued at the end of last month, Joseph Brusuelas, chief economist at RSM, said: “Funding a war will increase U.S. debt, which will trigger selling in the bond market, because investors require additional compensation to cover potential losses. Long-term rates, such as 30-year mortgage rates, depend to some extent on the performance of the benchmark U.S. 10-year Treasury yield.”

Sharma concluded that any sustained rise in oil prices could be amplified because governments’ policy tools to hedge against the shock are nearing exhaustion. This new vulnerability will not only expose the global economy to the consequences of the Iran war, but also to every foreseeable shock in the coming future.

（Source: Caixin Finance）