“As interest costs go up in the United States, you get in this vicious circle, where higher interest rates cause higher funding costs, cause higher debt issuance, which cause further bond liquidation, which cause higher rates, which puts us in an untenable fiscal position.”
– Paul Tudor Jones, October 10, 2023
Feeling the Pinch
The difficulties that an overindebted economy will encounter from rising interest rates range far and wide. Though they shouldn’t come as a surprise.
Quite frankly, it’s real simple. As interest rates rise, borrowing money becomes more expensive.
Car payments are an obvious example of the effects of rising interest rates. The average new car loan today has a monthly payment over $750, with an interest rate of 9.5 percent. What’s more, the monthly payment for roughly 17 percent – or about 1 in 6 – of new vehicle loans is over $1,000.
Financing a house purchase has also become grossly expensive. The average 30-year fixed rate mortgage is around 7.65 percent. Several years ago, it was below 2.65 percent.
According to Zillow’s fall housing market outlook, “the monthly principal and interest to buy a typical home has increased 122 percent in the past three years.”
Homeowner’s insurance has also gone through the roof. In fact, from May 2022 to May 2023, the national average home insurance costs were up 21 percent. This is on top of a 12 percent home insurance increase between May 2021 and May 2022.
Naturally, housing affordability is at an all-time low. By one estimate, incomes would have to jump 55 percent for housing to be considered affordable.
But it’s not just those financing car or house purchases that are feeling the pinch. Some companies are also finding that higher interest rates are a great big problem for business operations. As borrowing costs rise, debt servicing takes a giant bite out of profits.
To adapt, businesses must either reduce costs or persuade customers to pay more for their products and services. Some businesses, through a combination of these alternatives, will succeed. Others will go bankrupt.
Net Interest Record
There were 16 bankruptcies filed by companies with more than $1 billion in assets during the first 6-months of 2023. According to Cornerstone Research, this is over 45 percent higher than the first-half-year average of 11 bankruptcies filed by companies with more than $1 billion in assets from 2005 through 2022.
The effects of rising interest rates on the cost of home loans, car loans and business loans, is putting a tight squeeze on the economy. When these loans go unpaid, and the debt goes bad, the banking sector will be in a world of hurt.
These same dynamics, of rising interest rates and increased loan payments, are also putting the squeeze on Washington. Federal debt has been completely out of control for decades. Higher interest rates are now increasing the annual cost of servicing the massive pile of federal debt, which has now amassed to over $33 trillion.
Net interest – what the Treasury pays to service the debt – in fiscal year 2023 came in at $660 billion. This marked a new record and was well above the prior record for net interest ever spent in the budget of $476 billion in FY2022.
The critical reason for the net interest disaster is the immense amount of debt the Treasury will have to roll over at higher rates over the next 12 months. Roughly $7.6 trillion of publicly held outstanding U.S. government debt will mature in the next year. This will have to be financed at interest rates that are dramatically higher than they were just a few years ago.
The fiscal fundamentals facing the U.S. Treasury are, in a word, insane. By all honest accounts there’s just too much doggone debt. There’s no way it will ever honestly be paid off.
Brian Riedl, senior fellow at the Manhattan Institute, recently crunched the numbers. What he found is an unadulterated disaster.
“Even with no additional spending expansions — Washington is already scheduled to borrow $119 trillion over the next three decades, pushing the debt toward 200 percent of the economy. Even at the low interest rates projected by the Congressional Budget Office (CBO), a debt this massive would leave interest payments as the largest federal expenditure, consuming more than one-third of all federal taxes. Any additional borrowing would just pour gasoline on the fire.”
Yet additional borrowing is the name of the game in Washington. For FY2023, the federal government ran a deficit of $1.7 trillion. Moreover, it is likely interest rates will be much higher than those projected by the CBO.
The 2-year Treasury note currently yields about 5 percent. In February 2021, its yield was 0.12 percent. So, the fundamental insanity Riedl identified will, in reality, be even more insane.
Thus, as the interest rate on government debt resets higher, taxpayers – including you – will see more and more of their tax dollars going to pay net interest.
Any honest observer knew this day would come. Though for government officials it was a mounting problem that was much, much easier to ignore.
Why stick your neck out for a problem that may be pushed off into the future, beyond your lifetime?
How the Dianne Feinstein Effect Wrecked the Future
Dianne Feinstein, for instance, was a U.S. senator for over 30 years. Now, after decades of terrible decisions, she’s up and kicked the bucket.
Feinstein will never have to face the full ramifications of her handiwork. Many others, with zero respect for the future, also know the messes they’ve made will be left for others to contend with.
Joe Biden, George Dubya Bush, Nancy Pelosi, Chuck Schumer, Donald Rumsfeld (dead), Mitch McConnell, Harry Reid (dead), Mitt Romney, Dick Cheney, Donald Trump, Bernie Sanders, Lindsey Graham, Elizabeth Warren, Paul Wolfowitz, Barack Obama, Barney Frank, Chris Dodd, Barbara Boxer, Robert Byrd (dead), and many, many more.
“In the long run, we are all dead,” said 20th Century economist and all-around statist, John Maynard Keynes.
This, in short, was Keynes’ rationale for why governments should borrow from the future to fund economic growth today. This rationale provided the faux academic justification that allowed Congress to promise roses without thorns, rainbows without rain, and salvation without repentance.
Attempting to spend a nation to prosperity using borrowed money at everyday low rates courtesy of the Fed is not without consequences. In the short run, an illusion of wealth can be erected. In the long run, that illusion slips into decay and disrepair. Rising interest rates expedite the failure of fiscal recklessness.
Contrary to Keynes’ dangerous claptrap, racking up massive amounts of government debt hasn’t delivered the nirvana of rising long-term living standards. Rather it delivered the disparity of stagnating GDP and rapidly rising government debt, and an extreme wealth gap to boot.
No doubt, as Yogi Berra noted, “The future ain’t what it used to be.”
In the long run, some of us are not dead after all. We’re all still here, living with the consequences of a failed state.
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for Economic Prism