Treasury yields climbed sharply in October last year after the Treasury Department reduced the supply of long-term bonds and the Fed boosted expectations of a rate cut, but yields fell sharply from 5% to below 4%.
In early January, the outstanding public debt of the United States exceeded $34 trillion. The time it takes to create trillions of dollars of debt has gone from more than 2,000 days at the beginning to less than 100 days today. Goldman Sachs said bond yields are more sensitive to debt.
The debt "snowball" is getting bigger and bigger. Rather than the Treasury Department's downward revision of bond issuance and the Fed's expectation of interest rate cuts, the supply of US debt seems to be less important.
It is better to say that the supply of U.S. bonds has formed a fiscal and monetary constraint. Then, at least for now, it may be more important than the economy not landing and inflation not reaching the target.
Since the start of the pandemic, the U.S. economy has become increasingly dependent on large deficits and public debt.
Judging from the GDP in the fourth quarter of last year, which exceeded expectations, the economic ** cited data showed that for every $1 of GDP growth achieved by the United States, it would have to pay 1$ 55 deficit as well as about 2The price of $53 debt.
Therefore, although the overall fiscal spending of the United States in 2024 is likely to be involuntary expansion, the fiscal situation of this year will only become more tricky with 34 trillion yuan of existing debt, rigid spending, and a high-interest rate environment. As can be seen from the expenses in October-December last year (Q1 FY2024), interest expense pressures have surged significantly, increasing by $73 billion, up 49% year-on-year.
According to Guotai Junan**, U.S. federal spending may expand to 6$7 trillion, pushing the budget deficit to $1Around $8 trillion. Combined with the Fed's balance sheet reduction of $800 billion, this means that the net supply of Treasury bonds that the private sector needs to absorb this year will reach 2$6 trillion, Goldman Sachs expects 2$4 trillion.
At the same time, structurally, the size of interest-paying debt (more than one year) will increase substantially. from $1 trillion in 2023 to $1$8 trillion. From about 4% of GDP to about 7%.
Then according to the Fed's inflation and economic growth expectations for this year, due to the decline in the ** factor (inflation) in nominal GDP in 2023 and the slowdown in real GDP in 2024,The U.S. debt balance as a percentage of GDP has returned to the upward trend from 2023, from 122% in 2022 to 124% and 130% in 2023 and 2024.
In the 90s and early 2000s, every 1 percentage point of debt-to-GDP ratio would push Treasury yields up by 25-3bp。
However, since the global financial crisis, bond yields' sensitivity to debt has fallen by about half, falling back to the current 1-1About 5bp. Why has debt-yield sensitivity declined significantly over the past 20 years?
Goldman Sachs believes that this is because the rise in the global private savings rate has helped cushion the shift from public debt to private sector investment"Extrusion"effect, thereby reducing the sensitivity of yields to debt levels.
Soaring debt leads to higher yields because of public debt"Crowd out"private investment, thereby increasing the marginal production of capital in the economy (equilibrium interest rate level). So, when the private sector has more savings, or when the demand for investment is lower relative to savings, the public sector is in debt"Extrusion"The effect is mitigated.
Private sector savings have generally trended upward over the past two decades, with growth particularly strong during the pandemic, resulting in bond yields being less sensitive to public sector debt.
But for now, there is uncertainty about this savings-investment situation. On the one hand, the U.S. savings rate has fallen sharply after the epidemic, and the global savings level has also been adjusted downward. In terms of investment, geopolitical prominence has led to the restructuring of the global ** chain; investment in technology upgrades represented by AI; and investment in energy and green energy transition, or a reasonable recovery in investment rates.
Goldman Sachs believes this will make bond yields more sensitive to public debt. In the long run, yield-debt sensitivity will also return to mid-2000s levels, i.e., 2-2 percent higher for every 1 percentage point increase in the debt-to-GDP ratio5bp。Over the next decade, it will also push the US medium- and long-term bond yields to 55-65bp.
This means that short-term Treasury rates will be more volatile on supply, and the long-term, ultra-cheap borrowing era is behind us.
In fact, the debt pressure from the deficit in the United States will remain very strong this year, accounting for more than 6% of nominal GDP as a whole. And in terms of term structure, if the proportion of medium and long-term bond issuance increases as expected by the marketOnce it is greater than the market acceptance, it will still bring upward pressure on long-term interest rates in stages.
In late January, the 5-year Treasury auction took the market by surprise. With the size of the offering reaching $61 billion, the auction winning bid rate rose to 4055%, up from 3 in the previous month801% of the pre-issuance rate of 4035% is 2bp higher. The bid multiples were also very ugly, hitting their lowest point since September 2022.
At one point, the market repriced the U.S. Treasury yield curve, with the 30-year yield climbing to its highest level of nearly 4 this year42%。It can be seen that the market's ability to undertake large-scale debt supply is still questionable.
This year, the Ministry of Finance will not be able to adjust the maturity structure as it did last year, shift the long-end supply to the short-end, and even significantly reduce the issuance of short-end debt.
Because last year, a large number of short-term bonds have significantly absorbed market liquidity. The size of the overnight reverse repo (ON RRP) has rapidly narrowed to about $600 billion. Once the reverse repo falls further or even clears to zero, then the fist of the liquidity crunch will hit the bank reserves directly, thus threatening the liquidity of the financial system.
It can be seen that the high stock of debt and the incremental deficit have threatened the liquidity of the entire U.S. bond market and constrained fiscal and monetary policies.
On the one hand, the Ministry of Finance's shift in maturity structure and downgrading of financing plans in the context of high deficits have increased uncertainty about bank liquidity and overall financing.
On the other hand, the Federal Reserve also suddenly changed its face at the December interest rate meeting to boost the market's interest rate cut expectations, which is similar to the previous meeting said that one of the reasons for the pause in interest rate hikes is that the rise in long-term interest rates has played a role in shrinking financial conditions, which cannot be said to be a reversal.
Even in January, the wind began to blow to slow down the balance sheet reduction. In fact, the proportion of primary underwriters allocated in the auction of maturity treasury bonds is still high. Holding a large number of treasury bonds, alreadyThis reduces the flexibility of its balance sheet and affects the liquidity of financial marketsIt has become one of the reasons for the recent increase in the volatility of repo market interest rates.
In addition, among the net buyers of government bonds, the two groups that have risen relatively significantly are co-investors** and individual investors with hedges**, rather than overseas investors who have a relatively high proportion. ThisIt will also continue to deplete the bank's reserves. As a result, the Fed may have to start slowing its balance sheet reduction before reserves remain above desirable levels.
Therefore, how the financing plan of the Ministry of Finance and the auction of large amounts of treasury bonds this year will be a very important factor in the management of the Fed's interest rate cuts and balance sheet reduction expectations, not only on the trend of US bond interest rates, but also on the financial liquidity situation.
In other words, it does not mean that the supply of U.S. bonds seems to be less important in the face of lower issuance and interest rate cuts. Rather, if the game of debt "snowball" is to roll smoothly and has formed a kidnapping of fiscal and monetary policies, then it does not mean that, at least for the time being, it is more important than whether the economy does not land and inflation does not reach the target.
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