US bond market in turmoil

by Mario Lettieri and Paolo Raimondi * –

The US bond market is in great fibrillation. About 9.2 trillion dollars in US Treasury securities, equal to a third of all debt and almost 30% of US GDP, will mature in 2025. If we add to this the federal deficit of 1.9 trillion forecast by the Congressional Budget Office (CBO), but it will be more, this year the total issuance of securities will well exceed 10,000 billion dollars! A good part of the amount is made up of short-term 1-year bonds, the Treasury bills. Never before has this happened in the world! For the next decade, the CBO forecasts show deficits between 5 and 7% of GDP. This would add at least another 21,000 billion dollars of new debt by 2034. For the moment, the auctions of US bonds have held up. The interest rate on ten-year bonds, however, has gone from 3.8 to over 4.5%, approaching the fateful 5%, objectively and psychologically dangerous. This level anticipated the serious crises of 2000 and 2008. Furthermore, high interest rates do nothing but increase the debt. This year, interest should exceed 1,000 billion. Since 2027, the share of passive interests on the budget has tripled. Obviously, the gigantic American debt is not only attributable to Trump, even if he contributed a lot in his first presidency. However, his current behavior, erratic and aggressive on duties and in international geopolitical relations, has shattered an already very precarious world order and has created enormous problems in the management of the US debt. The uncertainty of American policies risks cooling the propensity of many governments and many large banks and international funds to buy American bonds. Even the offensive phrases expressed towards many countries, starting with the European ones and the BRICS, do not seem to be an incentive for confidence. Trump and his government cannot think that verbal outbursts are enough to calm the markets and convince them of the goodness of US bonds. The markets are not guided by presidential executive orders. In fact, the Administration is climbing up the walls to find patches after the recent evident turbulence on the Treasury bond markets. First, Trump threatened to oust the governor of the Federal Reserve, Jerome Powell, if he did not lower interest rates. Powell opposed because he knows that the tariff war will, among other things, increase prices and raise the inflation rate. For the moment, the battle has been won by the governor who has remained in his position, in fact supported by the traditional US economic and financial world. Trump's second move is to have Congress approve a law, the notorious GENIUS Act, which would allow stablecoin issuers and managers to buy government bonds, in particular Treasury bills, and to use them as collateral for cryptocurrencies usually linked to the dollar. If the law passes, this market is expected to grow by at least 2,000 billion dollars, which could be used to buy US bonds. For Trump and his gurus, this would help the bond market. In recent days, the House of Representatives has approved a bill called the "One Big Beautiful Bill Act" (!) which, in section 899, states that it wants to increase taxation on dividends, profits and assets held by banks and investment funds registered in foreign countries that are considered fiscally hostile towards the US. In practice, these are all those who do not promptly obey Trump's dictates. This is part of the promise, as with the tariffs, to collect more from that “exploitative world of American generosity,” to enrich Americans. In our view, it is a move that encourages flight rather than greater confidence in today’s America. The other, even more important, initiative is aimed at the US regulators, the Federal Reserve, the Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency, which are called upon by the government to modify, that is, reduce, the amount of liquidity that banks are required to set aside to cover their investments, thus making it available for more lending and for other activities, especially in the markets for Treasury securities. This is a matter of reducing the coefficient of the famous financial leverage: more securities issued in relation to ever-decreasing collateral. It would be a huge gift to the American banking system, which says it is enthusiastic about the reform.

Leverage has already played a disastrous role in the unregulated derivatives market in the past, whose bubble contributed greatly to the subprime crisis. For the largest global banks, this ratio is 5%, or 5 dollars set aside for every 100 invested, and was imposed precisely following the great crisis of 2007-9. The largest banks, which are also the main participants in the Treasury market, would benefit most directly. The risks, of course, would be primarily for small investors.

* Mario Lettieri, former member of parliament and undersecretary of the Economy; Paolo Raimondi, economist and university professor.