The US Government Intends to Reduce the Cost of Its Borrowing

This is the first such operation under the expanded program for buying back long-term US government debt securities. Treasury buybacks are carried out in the United States on a regular basis; however, previously the volume of each buyback did not exceed $2 billion. What is behind this decision by the US Treasury?

Amid the continued growth of US public debt, which has already surpassed the historic mark of $40 trillion, a significant budget deficit, and elevated inflation, yields on long-term US government bonds are rising. Bond yield is the return an investor receives from holding a debt security, including coupon payments and the difference between the purchase price and the sale price (or the bond’s face value at maturity). Rising Treasury yields mean an increase in the cost of government borrowing.

In August of this year, the yield on 30-year bonds reached its highest level since 2007, and concerns intensified among participants in the US Treasury market—which is the largest and most liquid debt market in the world (its size is about $30 trillion)—that the US government may be unable to service its debt. The rise in Treasury yields has led mortgage rates in the United States to reach their highest level over the past year.

In this situation, the US Treasury decided to carry out a “twist” (Treasury twist), i.e., to buy back previously issued, low-liquidity debt obligations that are not in demand in the market, and to issue new Treasuries in their place. According to S. Bessent, such operations will allow banks and other financial institutions to get rid of less liquid securities so that they can then participate more actively in auctions for the placement of new government debt obligations. Thus, increasing the buyback volume is intended to boost demand from potential investors and reduce the cost of long-term government borrowing. After the initial announcement of the planned measures, Treasury yields declined; however, this indicator then returned to its previous level.

Why, then, do US Treasury yields still remain high? This is explained by the fact that the US Treasury’s plan is merely a short-term way to restrain the cost of long-term borrowing. And S. Bessent himself acknowledges that he is not able to change the “equilibrium” price of Treasuries, and that buybacks in increased volumes can play only a limited role.

The actual level of yields is determined by the action of a number of fundamental factors. To reduce Treasury yields, measures are required such as cutting government spending and raising the policy rate to curb long-term inflation expectations. In addition, the ongoing armed conflict in the Middle East has a negative impact on the cost of US government borrowing. Without significant changes in fundamental economic indicators, the US Treasury’s plan may deliver only a short-term effect.

Author: Doctor of Economics, Professor, Department of World Economy and World Finance, Financial University under the Government of the Russian Federation Igor Alekseevich Balyuk.