The immense budgetary cost necessary to limit the damage caused by the COVID-19 pandemic does not scare bond investors.
Even as the mountain of public debt continues to pile up, the cost of borrowing for Washington is expected to fall to its lowest level in about 75 years and likely will remain so thanks to the Federal Reserve’s commitment to hold down rates. ‘interest at a level close to zero. .
“The cost of debt to the Treasury will remain extremely low over the next decade. We are entering a new phase for public debt in general, ”said Bastien Drut, senior strategist at CPR Asset Management, in an interview.
He noted that the same CBO report estimated that the cost of servicing the US federal government debt would rise to 1.1% by 2025, which would be the lowest level since World War II.
It comes as Washington continues to bicker over the federal government’s ability to run further deficits amid talks in Congress for another major fiscal stimulus package.
Lis: Fiscal stimulus prospects deadlock after Senate vote, prominent Republican says
Some market participants have called on the government to take advantage of falling interest rates to loosen fiscal pins, especially as Wall Street grapples with monetary policy limits in a world of high interest rates. are low.
“It’s cheaper for treasury bills to run huge deficits. In my opinion, governments must take this opportunity to tackle the new threats we are facing, ”Drut said, citing the cost of insuring against the risk of rapid climate change.
One overlooked point, Drut said, was that the Fed would transfer revenue from its $ 6.35 billion in agency mortgage-backed bonds and government bills to the US Treasury Department. This would help offset the heavy bills incurred by Washington.
Investors have also been more than willing to absorb the increased issuance. With fewer earning opportunities, much of the world’s savings were heading to the highly liquid US debt markets.
“There is a strong demand for safe assets from the US Treasury and major sovereigns,” Nathan Sheets, chief economist at PGIM Fixed Income, said in an interview. “It seems more viable to have higher debt levels.”
Sheets noted that the depressed levels of the 10-year yield were a sign that investors weren’t suffering much from indigestion as they absorbed the burgeoning federal debt issuance.
The yield on 10-year BX: TMUBMUSD10Y T-bills hovered around 0.70% last week. This marked a long journey from its peak of over 15% when fears of runaway inflation dominated a generation ago.
Sheets says the current fiscal environment was a far cry from the days of the Clinton administration during the ascendancy of bond guards, market players who would punish any perceived fiscal debauchery and demand higher interest rates to offset the risk. inflation potential.
“There is no sign that we are having trouble settling the auction at this point,” Marvin Loh, senior global macroeconomic strategist, told MarketWatch.
Yet even if the United States remains far from the threshold where public debt levels begin to pose a risk, Sheets suggested it might be best to be cautious.
“With every percentage point increase in public debt to GDP, there is a small risk that the market will choke on it,” he said.
Higher interest rates could make it harder for the Treasury Department to fund large budget deficits, as market compliance would be required to extend future maturities each year.
But investors say the Fed has made it clear it will stay dovish for a long time.
And in the distant future, when the Fed chooses to normalize its monetary policy, interest rates would still remain low because the natural long-term interest rate, or the neutral rate, is much lower than before, as time goes on. as Americans age and productivity growth slows.
This would limit the central bank’s room for maneuver to tighten monetary policy when the economy recovers from the slowdown caused by the pandemic.
In other markets, the S&P 500 SPX,
et le Dow Jones Industrial Average DJIA,
were trading slightly higher on Friday, but US stock indices were still on track to finish lower this week.
Lis: Record US Treasury Debt Auctions Could Squeeze Market Appetite Without Further Federal Reserve Support