As the PIIGS economies of Europe–Portugal, Ireland, Italy, Greece, and Spain–have staggered into a sovereign debt and monetary crises, the interest rates on their government debt have risen substantially. Pedro Amaral and Margaret Jacobson of the Cleveland Fed point out that on certain basic measures of government indebtedness, the U.S. seems to be in the same neighborhood as the PIIGS countries. However, drawing on analysis from the IMF\’s September 11 Fiscal Monitor Report, they also point out some ways that the holders of U.S. debt are significantly different from holders of government debt in these other countries, which at least so far has helped to shelter the U.S. government from an interest rate spike.
Here\’s a table that puts U.S. borrowing in the context of the PIIGS. The first three columns apply to 2011. The first column shows \”Maturing debt\” as as share of GDP: that is, how much of what was borrowed in the past comes due in 2011. The second column shows the budget deficit: that is, how much additional borrowing in 2011. The third column, \”Total Financing Needs,\” adds up the first two, for the total amount that needs to be borrowed in 2011 both to roll over past borrowing and to cover new borrowing. The next three columns show the same calculations as projected for 2012. The last two columns show the \”Average years to maturity\” of government debt, because obviously it matters how soon the debt needs to be paid off. The final column shows the debt-to-GDP ratio for these countries.
What jumps out from the table is that the \”Total financing need\” for the U.S. is larger than in any of the PIIGS economies in 2011 and 2012. The U.S. budget deficits as a share of GDP are larger in 2011 and 2012 than for any of the comparison countries, except Ireland. The U.S. debt has a shorter average maturity than the other countries. And while the U.S. debt-to-GDP ratio is mercifully nowhere near that of Greece or Italy, and well behind that of Portugal, it is similar to Ireland and substantially larger than Spain.
These other countries have faced higher and rising interest rates in 2011, as shown in the figure for Spain and Italy, while U.S. borrowing has faced lower and declining interest rates. Why?
Amaral and Jacobson provide some discussion of why U.S. interest rates haven\’t been rising. They draw on the IMF Fiscal Monitor for September 2011, which has a Chapter 3 called \”The Dog that Didn\’t Bark (So far): Low Interest Rates in the United States and Japan.\” The IMF writes (references to figures and tables omitted):
\”The relatively benign treatment by market participants of sovereign bonds issued by Japan and the United States, however, may not fully reflect fiscal fundamentals: current general government debt and deficits, and projected increases in debt over the next five years, are at least as high for the United States and Japan as they are for several euro area economies under market pressure or the euro area in general. In addition, projected long-term increases in pension and health care spending in the United States are larger than in many euro area economies. Japan and the United States face the largest gross financing requirements among all advanced economies this year and are projected to do so in 2012 and 2013 as well, reflecting their large deficits and debt stocks as well as their still relatively short debt maturity profiles, notwithstanding some success in lengthening maturities in recent years. Fiscal adjustment in the United States and Japan is lagging that in other advanced economies.\”
The IMF lists a number of \”structural factors\” that have kept the the U.S. and Japan to keep interest rates on government borrowing low, at least so far. Most of the reasons relate to the basic idea that if government debt is held by large domestic investors, then those investors are less likely to flee to other financial investments. Here\’s the IMF on such factors (again, footnotes and references to tables and figures omitted):
Low interest rates in the United States and Japan partly reflect structural factors, including some that do not seem likely to change abruptly in the near term:
- A substantial share of domestic debt holdings. In Japan, close to 95 percent of public debt is held domestically. The share is lower for the U.S. federal government, but rises to 70 percent for the general government. Moreover, the share of debt held domestically increases further for the United States if holdings by foreign central banks are excluded. This is significant, because private nonresidents may be more willing to shift their investments out of a country than are domestic investors, and foreign central banks may follow different investment practices than do other market participants …
- Significant local central bank debt purchases. The U.S. Federal Reserve has purchased 7½ percent of GDP in Treasury securities (cumulative, under its quantitative easing programs), an amount equivalent to 12 percent of publicly held Treasury securities. …
- Strong demand by a relatively stable investor base. Institutional investors—including insurance companies, mutual funds, and pension funds—hold 24 percent of government securities in Japan and 12 percent of Treasury securities in the United States. A further 22 percent of U.S. Treasuries and an estimated 2 percent of Japanese government bonds are held by foreign official entities. In addition, more than one third of U.S. Treasuries issued by the federal government are held by other government agencies, including the Social Security Fund …
- Lower banking sector risks. Banking risks, which as the recent crisis has shown can dramatically affect fiscal developments, are perceived to be lower in the Unites States and Japan than in Europe …\”
So, can the U.S. government keep borrowing with impunity? After all, the dog of higher interest rates hasn\’t barked yet. The IMF offers a few cautionary remarks:
\”The widening crisis in the euro area shouldnevertheless serve as a cautionary tale for the United States and Japan, as well as other countries with high debts and deficits. Recent developments in Spain and Italy demonstrate how swiftly and severely market confi dence can weaken and how even large advanced economies are exposed to changes in market sentiment. … Low borrowing costs in Japan and the United Stateshave arguably created a false sense of security, but should be viewed instead as providing a window
of opportunity for policies to address fiscal vulnerabilities. In the absence of a new round of quantitative easing, higher interest rates could be required to attract new buyers of sovereign debt. … Perhaps most importantly, Japan and the United States have also benefited from large stores of credibility—in other words, the implicit belief among investors that both countries will implement policies to ensure the sustainability of their debt. Such credibility might weaken suddenly if market participants became less convinced that such policies were forthcoming.\”