The Limit of Interest Rates Under a High Debt Environment

📖 The Scoop

Discussed many times throughout America's history, the issue of mounting debt levels has yet again become a front-page issue of the United States economy. "A $1 Trillion Conundrum: The U.S. Government's Mounting Debt Bill," "America faces a debt nightmare," "America's 'Debt Spiral' is Nearing a Critical Threshold" are but a few examples (Wallerstein, 2024; The Economist, 2023; Mohsin & Press, 2024). America's national debt is currently standing at $34 trillion and rising. Simultaneously, the Fed hiked interest rates 11 times between 2022-2023 after cutting rates in 2020 to deal with COVID-19. Overall, the Fed raised the federal funds rate by over 5 percentage points from a rate of almost zero at the beginning of 2022. While these hikes were effective in dealing against inflation, this meant that federal debt was also rolled over at higher rates during this time. Soon, the US will be spending more on interest than what it spends on national defense. Given that net interest costs are putting pressure on the government's current spending categories, a natural question arose; what, if any, is the limit of rising interest rates under a high debt environment? This paper explores the question by analyzing government spending and revenues based on the Congressional Budget Office's data and the historical record. Projections of what would happen to the government's spending power given different interest rate scenarios are assessed. Results conclude that the limit of interest rates stands around a 5-percentage point increase.

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