The U.S. government’s fiscal situation, which has long been a concern in abstract terms, is now becoming more tangible. Signs are emerging that global investors are losing patience with the U.S. government’s inability to narrow its growing fiscal deficits.
Global Investor Concerns
While the U.S. isn’t facing an immediate debt crisis, indicators are showing that global investors are becoming wary. There are signs in the bond market, credit rating agencies, and currency markets that suggest U.S. policymakers have less room to maneuver than previously thought.
Moody’s Downgrades U.S. Credit Rating
On Friday, Moody’s became the last major credit rating agency to downgrade the U.S. government’s credit rating, citing large annual fiscal deficits and growing interest costs. The downgrade led to a sell-off in Treasury bonds, with the 30-year Treasury yield rising to 4.97%, near the highest levels since 2007, excluding brief spikes in 2023.
Bond Market Reactions
The Treasury market, which is closely monitored worldwide, showed a clear reaction to the downgrade. Bonds sold off, suggesting that investors who fund U.S. debt are increasingly concerned about the long-term fiscal outlook. This contrasts with previous periods, such as in 2011 when S&P downgraded the U.S. credit rating, and Treasury yields paradoxically fell.
Fiscal Legislation Under Debate
In Congress, Republicans are making progress on fiscal legislation that could add trillions to the national debt. If tax cuts expire as scheduled in 2028 and 2029, estimates show that it would add $3.4 trillion to deficits over the next decade. Extending the cuts could push that figure to $5 trillion, raising concerns about the government’s debt service costs, which are expected to approach $2 trillion and more than 4% of GDP.
Changing Bond Market Sentiment
This represents a shift from the last 25 years when bond buyers showed little resistance to U.S. government borrowing. During past fiscal expansions, such as the post-2001 global war on terror, the 2008 financial crisis, and the pandemic response, markets gave a “green light” to deficit-enlarging actions. Now, however, the signal is at best yellow.
Looking Back: The Trump Tax Cuts and Rising Debt
When the Trump administration’s tax cuts were debated in 2017, the national debt was 75.7%. Today, it’s approaching 100%. The cost of servicing this debt has risen from 1.4% of GDP to 3.1%, with Treasury yields also seeing a sharp increase from 2.3% to 4.5%.
Warnings from Economists
Economists, such as Russel Matthews from RBC BlueBay Asset Management, are raising concerns about the U.S. fiscal path. Matthews pointed out that there is little desire or ability among U.S. politicians to propose a serious plan to reduce the deficit. He warned that without action, the U.S. could face a scenario similar to the one experienced by U.K. Prime Minister Liz Truss in 2022, when market instability led to volatility in bond yields.
