According to Bloomberg analysis, estimated annualized interest payments on U.S. government debt climbed past $1 trillion at the end of October. That amount has doubled in the past 19 months and is equivalent to 15.9% of the entire Federal budget for fiscal year 2022. The increasing debt load may pressure Treasury prices and lift bond yields in the future as the government will need to boost debt sales to finance the burgeoning shortfall.
The worsening deficits may add to Washington's gridlock as lawmakers debate the U.S. fiscal path amid heavy government spending. The large deficits have already helped drive up bond yields and prompted Fitch Ratings to downgrade the U.S. sovereign credit grade from AAA to AA+ in August. Fitch warned that the finances of the U.S. government will likely deteriorate over the next three years, given tax cuts, new spending initiatives, economic shocks, and repeated political gridlock.
Some analysts believe that the soaring deficits will force the government to increase sales of debt securities to fund the obligations. Bloomberg Intelligence warns, “There will be further increases to Treasury coupon auctions and T-bills outstanding going forward. Besides deficits of over $2 trillion in the foreseeable future, climbing maturities following the increase of issuance from March 2020 will also need to be refinanced.”
The U.S. government has recorded only six annual surpluses since 1960, the last in fiscal 2001. Two major economic shocks over the past 15 years have fueled the recent surge in deficits. The global financial meltdown in 2008 triggered a severe economic contraction that led to a four-year run of trillion-dollar deficits. Then, in 2020, the pandemic necessitated a surge of government money to households and businesses to keep the economy afloat. In addition, President Trump’s $1.5 trillion tax cut in 2017, enacted without offsetting spending cuts, widened the deficit, as did President Biden’s Inflation Reduction Act signed into law last year.
The Fed used to pass along a large amount of cash to the Treasury due to the interest it earned on its large bond portfolio. However, those days are over, with the deposit rate well over 5%, a much higher rate than the payout of the average bond in the Fed’s portfolio. The weighted average rate the Treasury pays on marketable securities has climbed to more than 3%, the highest since 2009. This year, net interest costs on debt added $184 billion to the deficit.
There are a couple of ways the U.S. could lower the deficit. An economic boom that boosts tax revenue would help. However, with interest rates currently at 22-year highs, the likelihood of an economic boom seems remote unless the Fed begins to lower interest rates. Another way to reduce the deficit would be an easing of gridlock in Washington, where Democrats oppose cuts to huge safety-net programs, and Republicans are opposed to tax increases.
On the date of publication, Rich Asplund did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
