This government is grappling with serious financial issues and a challenging future. Our debt-to-GDP ratio is nearing 120%, putting us in a position similar to that of a struggling emerging market, with the US dollar propping us up as our primary reserve and trade currency. The relative stability of our economy and financial markets helps, but it’s a precarious balance.
We’re running massive deficits—akin to those seen during wars or economic downturns, rather than in times of growth. Presently, our interest payments on national debt are greater than our defense spending. In fact, as historian Niall Ferguson points out, “A great power that spends more on debt servicing than on defense risks ceasing to be a great power.”
President Trump has valid concerns regarding interest rates; indeed, climbing rates mean higher costs for servicing debt and more refinancing needs this year.
But let’s be clear: there’s really no easy fix.
Levitt recently accused Sentilis of putting the US economy in a difficult position amid the Federal Reserve chair nomination process.
While the Fed has lowered its target interest rate, this mainly affects the short end of the yield curve—think short-term Treasuries. The market predominantly dictates the long end, which includes long-term government bonds. Those yields remain stubbornly high, and it’s troubling.
In the end, some type of yield curve control seems inevitable to keep long-term bond yields down. If interest payments continue to rise, our deficits will just balloon further, spurring more bond issuance and ratcheting up yields, possibly leading to a debt spiral. If interest rates rise significantly, it will trigger turmoil in both US and global bond markets.
But, as we’ve seen, interventions by the Fed and excessive government spending come with significant downsides. The cost often manifests as inflated asset prices in nominal terms. If stock and housing values decline over time, government revenues—specifically tax revenues—will decline too. This, in turn, exacerbates the deficit and skyrockets debt costs. It sets the stage for some sort of actionable response.
Kevin Warsh’s upcoming appointment as Federal Reserve Chairman is certainly noteworthy. Whether he leans hawkish (favoring tight monetary policy) or dovish (favoring easing) may not fundamentally matter. Given our fiscal reality and basic arithmetic, he will likely find himself needing to intervene and reduce interest rates.
The cost of maintaining fiscal policy will probably be inflation, which will chip away at the US dollar’s purchasing power and widen the gap between the wealthier and middle classes.
However, such interventions are merely stopgaps. They might buy time, but they won’t actually tackle the underlying issues.
The root problem can’t be resolved without cutting government spending across the board—this means more than just interest payments or hoping for robust growth to eliminate the budget deficit. A temporary fix won’t change the fact that we could be right back where we started.
Congress exhibits little political will to adhere to the actual budget, regardless of party lines.
Yes, rising interest rates and rampant spending are linked, and Warsh will undoubtedly find himself in a tough spot. Ultimately, we will all bear the consequences.
