The Congressional Budget Office is warning the United States about the potential for a bond market crisis similar to what occurred in the United Kingdom 18 months ago. With US government debt reaching nearly $35 trillion, concerns are mounting about the impact on the economy and America’s credit rating. CBO director Phillip Swagel emphasized the unprecedented trajectory of US government debt and the danger of a market reaction as interest rates rise, potentially leading to a bond market crisis if not addressed.
The UK’s bond market crisis in 2022 serves as a cautionary tale of what can happen when investors reject a government’s plan to borrow more. Following plans by former Prime Minister Liz Truss to issue more debt for tax cuts, UK government bonds and the pound sold off sharply, leading to significantly higher borrowing costs. The Bank of England had to intervene by purchasing gilts on a large scale to stabilize the market and prevent further financial instability.
Both Republicans and Democrats in the US have contributed to the soaring government debt, fueled by tax cuts under former President Donald Trump in 2017 and pandemic stimulus measures under President Joe Biden. Fitch downgraded the US credit rating in August due to the high and growing debt burden, and more borrowing could be on the horizon if Trump is re-elected and implements further tax cuts as promised. The potential for a large tax cut under a Trump administration could exacerbate the debt crisis.
In the UK, Truss’s tax reductions were the biggest in 50 years, including slashing the top rate of income tax. The increased cost of servicing debt in the US is taking a toll on public services, with interest costs reaching $659 billion in fiscal year 2023. This amount is up 39% from the previous year and nearly double what it was in fiscal year 2020. The government is spending more on servicing debt than on areas such as housing, transport, and higher education, highlighting the impact of growing debt on public services.
The CBO warns that US government debt is expected to continue rising, posing risks to economic growth and fiscal outlook. The large and growing debt could constrain policy choices for lawmakers and lead to increased interest payments to foreign holders of US debt. With interest rates rising and the cost of servicing debt increasing, the US faces the risk of a bond market crisis if action is not taken to address the debt trajectory. It is crucial for policymakers to address the mounting debt burden and its implications for the economy to avoid a potential financial crisis in the future.
