The National Debt’s Real-World Impact
For years, fiscal conservatives warned about the consequences of the expanding national debt, which has now reached over $33 trillion. Until recently, the concerns were largely theoretical, but we are now witnessing the tangible effects of an unsustainable federal debt.
Treasury’s Growing Debt Issuance
The US Treasury has been forced to issue more debt in the form of Treasury securities to cover trillions in spending beyond what the government’s revenue can sustain. This situation is starting to affect borrowing costs for both consumers and businesses, as the US government has to pay higher interest rates due to a lack of demand in global markets.
Not Yet a Crisis
Although it’s not yet a full-blown crisis, the excessive US debt is impacting anyone taking out loans or investing in stocks. Debt issuance, once a routine market activity, is now a hot topic as investors navigate new sources of volatility.
The Impact on Fiscal Policy
Citi Research economists have highlighted the growing influence of higher rates and higher debt. If policymakers must address fiscal sustainability in the coming years, it could become a significant growth headwind, possibly leading to spending cuts or tax hikes.
The Growing Annual Deficit
The annual US budget deficit swelled to $2 trillion in fiscal 2023, a notable increase from the $1.4 trillion deficit in 2022. This is counter to the trend since it should be decreasing. The deficit surge can be attributed to decades of fiscal negligence from both Democrats and Republicans.
Increasing Debt Issuance
What garnered investors’ attention was the Treasury’s announcement on July 31 to borrow $1 trillion in the third quarter alone, $274 billion more than its estimate just two months earlier. Lower tax receipts and higher outflows necessitated this additional financing.
Rising Interest Rates
Since then, 10-year Treasury rates have climbed by nearly a full percentage point. The bond market has realized that government spending exceeds receipts, making the bond market concerned about supply and demand.
Economic Impact
While most economists don’t anticipate that higher rates from excessive federal borrowing will lead to a recession on their own, they are driving up borrowing costs for businesses and consumers. These surging rates also diminish the appeal of stocks, contributing to the S&P 500’s 9% decline since July 31.
Bipartisan Responsibility
Both Democrats and Republicans share the blame for the escalating national debt. The last annual surplus was in 2001, during President Clinton’s tenure. Since then, various factors, including wars, stimulus spending, and tax cuts, have driven the debt upward.
Solving the Debt Problem
Addressing the debt problem requires a combination of spending cuts, tax increases, and reforms to costly programs like Social Security and Medicare. Shrinking the federal workforce or cutting smaller programs won’t make a significant dent in the debt.
The Lack of a Credible Solution
Neither party has proposed a credible plan for debt relief. Republicans favor spending cuts but target smaller programs. Democrats lean toward tax hikes but allocate additional revenue to new programs rather than debt reduction.
Market Pressure and Potential Recession
The market could force action if rising rates cause significant pain, leading to higher taxes and lower spending. A recession might also disrupt Congress’s ability to pass fiscal stimulus without triggering a market backlash.
The Growing Interest Expense
The government now spends more on interest payments than it does on the Pentagon. Citi predicts that the fiscal situation could become a more critical election issue in 2024. Regardless of its electoral impact, debt management will be a pressing concern for the 2024 administration.
