Bond market signals: what rising yields reveal about debt and the middle class
The bond market is repricing the federal government’s fiscal choices. Congress appears unwilling to reduce benefits for the middle class and has no clear plan to help it other than growing the national debt—an approach that is heading toward trouble as bond investors push yields higher. The 30-year Treasury yield closed at 5.62% on September 30, a level last seen in 2002. The 10-year Treasury sits near 5.3%. The budgetary consequences are severe: interest on the national debt reached $857 billion over the first nine months of the fiscal year, more than the government spent on Medicare or national defense. Before Washington responds, it should understand what the market is signaling.
One explanation is that investors are losing faith in the dollar. Gold has more than doubled in two years, and some commentators describe a “debasement trade,” in which bondholders flee paper claims ahead of expected inflation. In that narrative, rising yields and record gold prices are two symptoms of the same problem: increased dollar issuance to cover deficits.
But other data contradict that tidy story. A bond yield has two components: expected inflation and the real, inflation-adjusted return. Comparing conventional Treasuries with inflation-protected securities separates the two. The 30-year breakeven inflation rate, the market’s long-run inflation forecast, sits near 2.3%, which is unremarkable. By contrast, the 30-year real yield has climbed above 3%, its highest level since before the 2008 financial crisis. Bondholders expect the dollar to hold its value reasonably well; what has changed is the real cost of financing the government.
Supply and demand help explain that shift. The federal government is running deficits near $1.9 trillion, with the Congressional Budget Office projecting larger ones ahead. At the same time, private demand for capital is surging. The artificial-intelligence buildout requires enormous borrowing for data centers, chips, and electric power. Public deficits and private investment are competing for the same pool of savings. When demand for savings outpaces supply, its price rises—the real interest rate.
Some of this reflects productive investment: real returns driven by such investment indicate a growing economy. But deficits at this scale crowd out the very investment that raises future living standards. The arithmetic compounds: higher yields raise debt-service costs, which enlarge deficits, which require more borrowing at those higher yields. A 3% long-term real yield means capital scarcity is binding again. Near-zero rates from 2008 to 2020 taught borrowers—Congress most of all—to treat capital as basically free. Those days are gone.
The Treasury Department’s response has been limited. In August, Secretary Scott Bessent doubled the department’s buybacks of 10- to 30-year debt after months of weak demand for bonds. Yields fell on the announcement but fully reversed within a day. A $4 billion operation is unlikely to move a market measured in trillions. Such improvised interventions undermine the “regular and predictable” issuance framework Bessent has championed. While debt management can smooth market liquidity, it cannot create savings. As Krishna Guha, Evercore’s head of economics and central bank strategy, observed, struggling sovereigns often resort to such tactics, and the United States “is not different without limit.”
The only real solution is putting fiscal policy on a sustainable trajectory, which will require a combination of tax increases and spending cuts. On taxes, room is limited. Over the past 60 years, federal tax receipts as a share of GDP have ranged between 14.4% and 19.8%, with an average of 17.0%. Unless the tax base is broadened by raising taxes on the middle class—a step that works in Europe but is politically unpalatable in the U.S.—there isn’t much more revenue available to squeeze out of the economy.
Government spending has risen proportionately more over the same period. Unlike tax receipts, which fluctuate within a range, spending follows a long-run upward trend. The Congressional Budget Office forecasts it will grow further, especially as entitlements and net interest outlays rise. If broadening the tax base remains politically infeasible, most of the necessary adjustment will fall on spending. The immediate goal should be to keep the growth rate of federal expenditures below the growth rate of the real economy. Modest tax increases could make the deficit-adjustment process smoother.
There is a deeper lesson about the nation’s fiscal condition: Congress has repeatedly rejected mechanisms of self-restraint. Lawmakers had opportunities to adopt budget rules, enact spending caps, implement unpopular but necessary revenue enhancements, and reform entitlements. Each time, parochial interests prevailed over statesmanship.
Bondholders are now the only remaining check on federal borrowing, and they can be unforgiving. They may tolerate profligacy for a time, but eventually they will punish it—and there is little voters and politicians can then do to prevent that punishment. Nations that wait for creditors to impose discipline typically face crisis-driven austerity rather than deliberate reform. A self-governing society should embrace responsible fiscal rules before bondholders impose harsh discipline.
High bond yields are an information signal. In this case, they say the government is absorbing too much of the nation’s scarce capital. Gimmicks such as buybacks won’t change the underlying reality the signal indicates. Only major fiscal reforms will. It is up to the American public to ensure Congress and the President get the message.
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