Is Trump sleepwalking to a U.S. bond market crisis?

Desmond Lachman

Submitted photo/InsideSources

All of this suggests the government has a clear choice. It can either take credible policy measures now to put public finances on a sustainable path to restore market confidence. Or it can invite a bond market crisis that might roil the economy and the financial markets by continuing along the path of budget policy irresponsibility.”

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OPINION — According to an adage, it is not a good idea to bite the hand that feeds you. Evidently, President Trump does not buy into this adage as he weaponizes U.S. financial policy and arbitrarily imposes punitive import tariffs even on traditional allies.  

Trump seems impervious to the fact that the U.S. government has enormous borrowing needs and depends heavily on the kindness of strangers to finance them. Inviting foreigners to go on a U.S. government bond-buying strike is likely to end badly for the U.S. bond and stock markets. In turn, a further spike in long-term interest rates risks roiling the U.S. and the world economies. 

It would be an understatement to say the U.S. government has huge borrowing needs. It is running a budget deficit of around $2.1 trillion, and — according to the Congressional Budget Office — that deficit is like to remain above $2 trillion as far as the eye can see. At the same time, because of the government’s increased resort to short-term borrowing to cover its borrowing needs, it now needs to roll over more than $3 trillion of maturing Treasury bills and bonds each quarter.  

A key vulnerability of the U.S. economy is its reliance on foreign financing. Indeed, foreigners own an estimated $8.5 trillion, or around 30%, of all Treasury bonds outstanding. This makes it essential that foreigners hold onto their existing large U.S. government bonds. Treasury Secretary Scott Bessent also needs to get foreigners to add to those holdings if the government is to finance its gaping budget deficit at a reasonable interest rate. 

Troubling signs are emerging that foreign central banks are uneasy about holding U.S. Treasuries and other assets the U.S. government could freeze. Over the past year, China and Japan, the largest holders of U.S. government bonds, reduced their U.S. Treasury holdings by $135 billion. More recently, the Dutch central bank joined the French central bank in starting to reduce its New York gold holding. 

Meanwhile, the Norwegian sovereign wealth fund, the world’s largest such fund, has announced that it plans to slash its U.S. Treasury bond holdings by $80 billion. 

One factor reducing foreign appetite for U.S. treasuries has been the increased weaponization of U.S. financial policy. Foreigners have not missed that, over the past few years, the United States has frozen Iran and Russia’s U.S. dollar holdings. Foreigners have also been taken aback by how Trump has resorted to exorbitant import tariffs to punish traditional U.S. allies such as Brazil and Canada. This raises questions in foreign central banks about the wisdom of holding assets that might be within the reach of a capricious U.S. government that has no compunction about not playing by the rules to punish its perceived adversaries. 

Another factor unsettling foreign central banks is Trump’s relentless attacks on the Federal Reserve’s independence in his quest for lower Fed interest rates. He is doing so even as the Fed keeps missing its 2% inflation target. That has to raise questions abroad as to whether the United States might be tempted to inflate its debt away. In turn, markets are demanding higher yields as compensation for the inflation risk they are taking. 

A seeming loss of foreign appetite for U.S. Treasury bonds underscores the need for early measures to reduce the budget deficit by public spending cuts and undertaking serious tax reform. The recent move in long-term interest rates suggests this is no time for irresponsible budget policy. The 30-year Treasury bond rate has risen to 5.2%, or to its highest level in 20 years. Meanwhile, the key 10-year Treasury yield is now approaching the psychologically important 5% level. 

All of this suggests the government has a clear choice. It can either take credible policy measures now to put public finances on a sustainable path to restore market confidence. Or it can invite a bond market crisis that might roil the economy and the financial markets by continuing along the path of budget policy irresponsibility. 

Unfortunately, there are no signs that the Trump administration intends to mend its profligate budget ways. Please submit comments at yourvalley.net/letters or email them to AzOpinions@iniusa.org. We are committed to publishing a wide variety of reader opinions, as long as they meet our Civility Guidelines.