Credit for averting a second Great Depression should principally go to Fed chairman Ben Bernanke, whose knowledge of the early 1930s banking crisis is second to none, and whose double dose of near-zero short-term rates and quantitative easing - a doubling of the Fed's balance sheet since September - has averted a pandemic of bank failures. No doubt, too, the $787 billion stimulus package is also boosting US GDP this quarter.

But the stimulus package only accounts for a part of the massive deficit the US federal government is projected to run this year. Borrowing is forecast to be $1,840 billion - equivalent to around half of all federal outlays and 13% of GDP. A deficit this size has not been seen in the US since the Second World War. A further $10,000 billion will need to be borrowed in the decade ahead, according to the Congressional Budget Office. Even if the White House's over-optimistic growth forecasts are correct, that will still take the gross federal debt above 100% of GDP by 2017. And this ignores the vast off-balance-sheet liabilities of the Medicare and Social Security systems.It is hardly surprising, then, that the bond market is quailing.

For only on Planet Econ-101 (the standard macroeconomics course drummed into every US undergraduate) could such a tidal wave of debt issuance exert "no upward pressure on interest rates". Of course, Mr Krugman knew what I meant. "The only thing that might drive up interest rates", he acknowledged during our debate, "is that people may grow dubious about the financial solvency of governments".

Might? May? The fact is that people - not least the Chinese government - are already distinctly dubious. They understand that US fiscal policy implies big purchases of government bonds by the Fed this year, since neither foreign nor private domestic purchases will suffice to fund the deficit. This policy is known as printing money and it is what many governments tried in the 1970s, with inflationary consequences you do not need to be a historian to recall.

The policy mistake has already been made - to adopt the fiscal policy of a world war to fight a recession. In the absence of credible commitments to end the chronic US structural deficit, there will be further upward pressure on interest rates, despite the glut of global savings. It was Keynes who noted that "even the most practical man of affairs is usually in the thrall of the ideas of some long-dead economist". Today the long-dead economist is Keynes, and it is professors of economics, not practical men, who are in thrall to his ideas.

Under President Barack Obama's budget plan, the federal debt is exploding. To be precise, it is rising - and will continue to rise - much faster than gross domestic product, a measure of America's ability to service it. The federal debt was equivalent to 41% of GDP at the end of 2008; the Congressional Budget Office [CBO] projects it will increase to 82% of GDP in 10 years. With no change in policy, it could hit 100% of GDP in just another five years ...

The deficit in 2019 is expected by the CBO to be $1,200 billion ... Income tax revenues are expected to be about $2,000 billion that year, so a permanent 60% across-the-board tax increase would be required to balance the budget. Clearly this will not and should not happen. So how else can debt service payments be brought down as a share of GDP? Inflation will do it. But how much?

To bring the debt-to-GDP ratio down to the same level as at the end of 2008 would take a doubling of prices. That 100% increase would make nominal GDP twice as high and thus cut the debt-to-GDP ratio in half, back to 41 from 82%. A 100% increase in the price level means about 10% inflation for 10 years. But it would not be that smooth - probably more like the great inflation of the late 1960s and 1970s with boom followed by bust and recession every three or four years, and a successively higher inflation rate after each recession.

The fact that the Federal Reserve is now buying longer-term Treasuries in an effort to keep Treasury yields low adds credibility to this scary story because it suggests that the debt will be monetised. That the Fed may have a difficult task reducing its own ballooning balance sheet to prevent inflation increases the risks considerably. And 100% inflation would, of course, mean a 100% depreciation of the dollar. Americans would have to pay $2.80 for a euro; the Japanese could buy a dollar for 50 yen; and gold would be $2,000 per ounce. This is not a forecast, because policy can change; rather it is an indication of how much systemic risk the government is now creating.

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