CRACK THE ECONOMY
According to National Debt Clocks, using US Treasury Data, as of 22 March 2022:
Federal Debt reached $ 30.33 trillion
Federal Debt interest costs are $ 428.7 billion
The effective Federal debt interest rate is 1.4% (calculated from the above two numbers)
The current Fed 10-year coupon is 1.88%
The weighted average maturity of US debt was about 65 months in Q4 2020.
Now, let’s take recent US Federal Reserve announcements of potential interest rate hikes. We obviously cannot predict this realistically. But let’s assume we go to somewhere between 2.5 – 3.0% by the end of the year.
The following exercise is purely hypothetical, as it depends on the length of the hikes, economic activity, new debt maturities, safe haven reactions, and a range of other issues.
But given continuing high US deficits, look at what happens if take a standard approach to deficit finance while raising the weighted average debt maturity only slowly:
By October 2026 we will be looking at just under $ 38 trillion in federal debt and annual debt service requirements of $ 0.88 trillion. This will be the second largest budget line, after Social Security and probably equal to Medicaid by that year.
Viewers will note the high deficit. Despite the recent Biden tax reforms, I anticipate a hung Congress, or even a Republican takeover, from November 2022 onwards. This political deadlock will almost certainly result in a high deficit, which will eventually be overtaken by runaway Federal obligations.
It is highly likely that by 2024, the debt interest owed by various branches of the US government will remit interest gains to the Treasury. But this will only temporarily solve the problem. For example, Social Security and the Fed are heavily invested in Federal Bonds. A requirement to surrender interest rates will only cause problems with short-term capital cover ratios and funding problems.
I’ve been hearing various scenarios that the Fed may raise interest rates to 6%. Like Bill Gross said, this will crack the economy.
This is not to say the Fed should not raise rates to this level. But if it does, we are looking at another financial crisis on the order of 2008. We have simply become accustomed to too much debt at every level of our society. And for years, the return on that debt has been diminishing.