Posted by Lawrence Gillum, CFA, Fixed Income Strategist
Tuesday, November 8, 2022
With voters heading out to their local voting locations today to determine the make-up of the next U.S. Congress, regardless of the outcome, lawmakers may be tasked with doing more with less. Congress—and in particular, the House of Representatives—is invested with the “power of the purse”; the ability to tax and spend public money for the national government. And spend they have. Total outstanding government debt currently stands at just over $31 trillion and that number will likely increase, regardless of which party is in power. According to the Congressional Budget Office (CBO), total interest payments on the government’s debt could come in at nearly $580 billion this fiscal year, up from $399 billion in recently-completed fiscal 2022. As such, the federal government currently spends more on interest payments than it does on Social Security Disability Insurance, food and nutrition services, housing, or transportation. And those interest expenses could continue to rise.
After last week’s Federal Reserve (Fed) meeting in which the Committee increased short term interest rates to take the fed funds rate to 4.0% (upper bound), U.S. Treasury yields reached decade highs. Moreover, the Fed has stated that interest rates are likely going to be at these elevated levels for a few years in an effort to slow aggregate demand. Higher for longer will certainly impact the costs associated with servicing government debt levels. And unlike many corporations that termed out debt to take advantage of low interest rates, the Treasury Department maintained its historical issuance schedule and now over 40% of existing Treasury debt will need to be refinanced before 2025. Currently, the weighted average coupon for existing debt is slightly under 1.8%. However, with most tenors on the U.S. Treasury yield curve above 4%, coupon levels will most assuredly go higher and will likely push debt service costs closer to $1 trillion annually.
The move higher in Treasury yields this year has been swift and unrelenting and has pushed borrowing costs for countries, consumers, and companies to multiyear highs. And while many companies prepared for higher rates by locking in low interest rates, the U.S. Government did not. If the Fed stays true to its word that interest rates will stay elevated over the next few years, that will likely cost the U.S. Government billions in additional interest payments.
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