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Who’s Carrying the Growing Federal Debt: A Snapshot

by xyonent
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The U.S. federal debt (i.e., the cumulative annual budget deficit) is skyrocketing. I won’t get into a big-picture discussion here of how this impacts the risks of slowing U.S. growth and sustained inflation, and increases the longer-term risk of a deeper financial crisis. Instead, I’ll state some facts.

This figure shows the “total” debt-to-GDP ratio and the “publicly held” debt-to-GDP ratio. The difference is that the federal government itself holds a lot of federal debt, particularly in the Social Security and Medicare trust funds, which are legally required to hold U.S. Treasury debt. Focusing on publicly held debt is often more informative because it represents the amount the U.S. government is drawing down from capital markets other than the government itself.

As you can see, the national federal debt increased in the 1980s due to a combination of high deficits and high interest rates during the Reagan Administration, but then decreased again in the late 1990s. The national federal debt was about 35% of GDP in 2008. It has now grown to about 95% of GDP, which represents an increase of about 60% of America’s massive GDP in less than 20 years.

Who are the “people” who own the federal debt? Here’s the breakdown:From the Peterson Foundation This is based on underlying U.S. Treasury data. As you can see, roughly two-thirds of publicly held debt is held by Americans. These holders include, as you would expect, mutual funds, banks, pension funds, insurance companies, and other investors. U.S. Treasury debt is sometimes referred to as a “safe haven,” making it a natural part of the investment portfolio for many institutions.

But there has been one big change in recent decades: the increase in U.S. debt held by the Federal Reserve. This chart shows the federal debt held by the Federal Reserve as part of its “quantitative easing” program. As you can see, under normal patterns over the past half century, the Federal Reserve held U.S. federal debt equivalent to about 5% of GDP. This is the amount used for the Federal Reserve’s day-to-day treasury operations. However, between 2008 and about 2014, as the overall debt-to-GDP ratio rose by about 30 percentage points, the Federal Reserve ended up holding about one-third of that debt.

The Fed began to phase out its holdings of federal debt as a percentage of GDP, but then the pandemic hit and the Fed stepped in again and began holding even more federal debt. Now the Fed is again trying to phase out its holdings of federal debt (its appetite for federal debt is not infinite), but it is still well above the 5% of GDP benchmark level that prevailed for roughly half a century before 2008.

Another big change is the amount of US Treasury debt held by foreign investors. The ratio of US Federal debt to GDP has been on the rise in recent decades. This is not surprising. Again, US Treasury debt is the world’s “safe haven” and a natural part of the portfolio for central banks and private investors in a globalizing world economy. We also see that when the US debt-to-GDP ratio rose around 2008, foreign investors’ holdings jumped from about 15% of GDP to 35% of GDP and have since declined somewhat. After 2008, investors around the world wanted to hold more “safe haven” assets as the global economy seemed to be becoming more risky. In that sense, paradoxically, the 2008 financial crisis made it easier for the US government to borrow. In other words, from 2008 to 2014, the debt held by US citizens increased by about 30 percentage points of GDP, about two-thirds of which was due to increased foreign holdings of federal debt.

But since then, foreign investors’ holdings of U.S. debt as a percentage of GDP have declined, even taking into account the further pandemic-related increases in the U.S. debt-to-GDP ratio. Foreign investors’ appetite for U.S. debt is not limitless.

When I first began studying economics in the 1970s, the argument was that the United States didn’t need to worry too much about federal borrowing because “we owe it to ourselves.” But the rise in foreign holdings of U.S. government debt means that the United States now owes about one-third of its federal debt, and the associated interest payments, to others outside the U.S. economy.

Federal interest payments (also expressed as a percentage of GDP) have been relatively low for most of the time since 2000 due to low interest rates. But as the federal debt has risen and interest rates have risen, interest payments are skyrocketing. The Congressional Budget Office projects that federal interest payments will exceed defense spending in 2024 and will exceed Medicare spending by 2025.

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