Al Charlson is a North Central Iowa farm kid, lifelong Iowan, and retired bank trust officer. The Waverly Democrat published a version of this commentary on February 6.
Old habits die hard. While many of my neighbors are checking sports scores, I’m checking the U.S. Treasury yield curve. (OK – I do follow the Cyclones closely.) Even though I’m no longer actively managing investments, I’m still interested in the economy. Over time I’ve learned that the bond market is a more focused and rational indicator of current and developing economic conditions than the stock markets.
The Treasury yield curve is simply a graph of the current interest yield on U.S. Treasury debt over a range of maturities from overnight Fed funds to 30-year bonds. The Federal Reserve sets the Fed funds rate. Longer term rates are determined by market supply and demand. Bond market watchers generally focus on the 2-year to 10-year sector of the curve.
Normally the yield curve is upward sloping or positive, because bond investors demand a higher return for tying up their money longer to compensate for the risk of real principal loss due to inflation and market risk (if new bonds are issued with higher yields the price of older bonds goes down).
Example of positive yield curve from Wikimedia Commons
A downward sloping or inverted yield curve indicates investors are pessimistic about the economy and want to move money into relatively safe Treasury debt. So, an inverted yield curve is considered a warning sign of a pending recession. The 2-year to 10 year sector of the yield curve was inverted from mid-2022 until late-2024.
Example of inverted yield curve from Wikimedia Commons
Many market watchers are amazed our economy did not slide into recession during that period. Actually, the U.S. economy has emerged from the COVID-19 shock in strong shape.
Since World War II, U.S. Treasury debt and the U.S. dollar have held a privileged status in the global financial markets. U.S. Treasury bonds are considered the worldwide standard risk-free investment, because of absolute assurance that the U.S. government will always pay interest and principal when due.
Investors in other types of debt, through supply and demand, determine how much higher the interest rate on that debt must be than the rate on Treasury bonds of the same maturity to compensate them for the added risk. For example, the rates on the least risky (AAA) 10-year corporation bonds are currently about three-tenths of 1 percent above 10-year Treasuries. (The reason mortgage rates are going up at the same time the Federal Reserve has been reducing the Fed funds rate is that we have shifted back to a positive yield curve, and longer-term Treasury bond rates are higher.)
Our representatives in Washington would be deranged to risk our privileged global financial status by threatening not to raise the debt ceiling, which would trigger a default.
At the same time, as a nation we do need to bring our federal debt level under control. Based on data published by the Federal Reserve Bank of St. Louis, federal debt held by the public was 47 percent of Gross Domestic Product (GDP) at the end of 2008. By the end of 2016 it had grown to 77 percent. By the end of 2020 it had grown to 98 percent. It stands at about that same level (98 percent of GDP) today.
During this period, our economy experienced two major shocks: the recession caused by the 2008-2009 blow-up of the mortgage-backed securities market, and the COVID-19 pandemic. Also, the 2017 tax cut significantly reduced federal tax revenue.
National debt at or above 100 percent of GDP is a serious red flag warning. Our current path of federal debt accumulation threatens our children and grandchildren in two ways. Higher interest costs will crowd out their ability to respond to future needs. In addition, any indication our country is unable or politically unwilling to pay our debt as it becomes due would derail our financial markets and economy.
Cutting spending is part of the solution. In every organization in which I have worked there have been opportunities to fulfill our mission more effectively and cost-efficiently. Successful managers of organizations in both the private and public sectors constantly watch for those opportunities and implement changes strategically in ways that do not disrupt service delivery.
However, any claim that we can bring our federal budget deficits under control strictly by cutting spending without also raising more tax revenue is nonsense. About 83 percent of federal spending during Fiscal Year 2024 went toward Defense and Veterans, Social Security and SSI, Medicare and Medicaid, and interest on publicly-held debt.
Everything else, including programs ranging from Customs and Border Patrol, national parks, and the FBI, to air traffic control, the federal court system, and crop insurance subsidies, made up the other 17 percent, or about $1.12 trillion in spending. The Fiscal Year 2024 deficit was about $1.83 trillion.
The direction we are heading now is increasingly benefiting wealthier (and generally older) Americans at the expense of our younger neighbors who are trying to establish their families and careers. It is both irresponsible and harmful to the future of the nation our grandchildren will inherit.
Top image is by W. Scott McGill, available via Shutterstock.
2 Comments
As AOC explained
just a few days ago, the 2017 tax cut for billionaires is set to expire this year.
The billionaires are determined to have it renewed.
The catch, however, is that the original bill had language stipulating that to renew it, the lost revenues thereafter from its renewal MUST be “paid for.”
That’s why Musk has his teenage script kiddies mucking around in the Treasury code to figure out how and who among non-billionaires to fuck over.
I’ve felt safe in the past owning a few bonds from Treasury Direct. (Got started down that path from my past employer, as it was an option. Never a get rich quick thing, but safe; and 13% plus interest on I-bonds was a nice accumulation hedge a couple years back when everything else was melting down.)
Should I still feel safe?
I don’t know that I should.
Whether rational or not, I know I DON’T feel safe.
Can’t wait for them to entangle everything with crypto pump and dump schemes.
Fly_Fly__Fly_Away Sun 9 Feb 3:20 PM
Taxes and defense spending.
Interesting in the statement that “83 percent of federal spending during Fiscal Year 2024 went toward Defense and Veterans, Social Security and SSI, Medicare and Medicaid, and interest on publicly-held debt”, Social Security/SSI and Medicare and Medicaid are funded through separate payroll taxes distinct from income taxes. Perhaps we need to eliminate the cap on those taxes to take care of those pieces, and let them be the self-funding items they were intended to be. Of what’s left, it seems that veterans is quite small in comparison with defense spending. Perhaps that is the area with the most corruption, the most waste, and the most inefficiencies. We know it isn’t going to our troops – pay is still quite low in the military. So, I would posit it is more in the privatization of defense to contractors. If we cut 10% of our defense budget, my guess is that nothing about our readiness or capabilities would be affected at all, and we would still be spending more than the next six or so countries in the world combined. But we would likely save a fortune. Why is the private defense industry so sacrosanct?
Fr. Marty Watt Sun 9 Feb 8:16 PM