ACTV - U.S. Challenge: More Federal Interest Expense In Store
2023-03-08 01:45:00 ET
Summary
- Interest payments are likely to make up a larger portion of the U.S. federal budget over the next decade, given the sharp rise in interest rates.
- According to its projections, interest payments on the national debt could rise to $1.4 trillion by 2033, three times the $475 billion paid in 2022.
- In 2022, after the Fed raised the federal funds rate by 425 basis points in seeking to tame 40-year high inflation, net interest payments as a percentage of total federal expenses rose from 5.2% to 7.6%.
By Lindsey Cwik
Interest payments are likely to make up a larger portion of the U.S. federal budget over the next decade, given the sharp rise in interest rates.
The U.S. federal government and economy are expected to feel the implications of the Federal Reserve’s current tightening cycle for at least the next decade, as emphasized in the Congressional Budget Office’s (CBO) latest Budget and Economic Outlook.
According to its projections, interest payments on the national debt could rise to $1.4 trillion by 2033, three times the $475 billion paid in 2022. Consequently, spending on interest expense would exceed other crucial federal budget outlays like Medicaid and defense spending in the next decade, as well as cut into contributions to gross domestic product from personal consumption and investment.
In 2022, after the Fed raised the federal funds rate by 425 basis points in seeking to tame 40-year high inflation, net interest payments as a percentage of total federal expenses rose from 5.2% to 7.6%.
Amplified by the extensive debt issued in response to the pandemic, this percentage is expected to nearly double to 14.6% by 2033. As a result, both mandatory and discretionary spending as a share of total outlays is projected to decline.
As more of the budget is allocated to paying debt obligations, the federal government will likely find it difficult to fund defense programs and nondefense programs such as transportation, infrastructure, education, environmental and more, since these allocations are determined on an annual basis by Congress’s appropriations process.
Relative to the size of the economy, net interest costs were 1.9% of GDP in 2022. This percentage is expected to reach 3.6% over the next decade, which would be their highest share of GDP going back to 1962.
A higher portion of GDP contributed by government spending would crowd out contributions from elsewhere in the economy specifically personal consumption expenditures and fixed investment in both residential and nonresidential sectors. Expansion of the economy’s goods and services production would be put aside at the expense of higher interest rate payments.
The CBO has warned that the current fiscal trajectory is unsustainable, and after a month of strong macroeconomic data proving inflation to be stickier than previously anticipated, a higher terminal rate poses even more upside risk to current projections.
As the Fed continues its tightening path to restore price stability, “higher-for-longer” rates would elevate interest payments, exacerbate the federal deficit, and hinder future investments in other areas of the economy.
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U.S. Challenge: More Federal Interest Expense In Store