Once a symbol of America’s economic might and accepted as a global coin of the realm, they have fallen badly out of favor, with serious consequences for taxpayers, investors, and financial markets, says an article published on Semafor website.
Historic Decline
Once a symbol of economic prowess, U.S. Treasury bonds face a significant decline in demand, driven by oversupply and changing investor sentiments. This challenging period is noted as the most tumultuous since the Civil War, posing implications for taxpayers, investors, and financial markets.
Economic Forces At Play
Excess supply and insufficient demand have converged to create adverse conditions for U.S. government bonds. Despite continuous government borrowing to cover budget deficits, traditional buyers, both domestically and internationally, are retreating.
This results in investors seeking the highest yields since 2007 and negatively impacting bond portfolios, especially for the longest-dated Treasury bonds.
Market Dynamics
The government’s higher-than-expected borrowing contributes to an increased supply of Treasurys, reducing their value. Simultaneously, the Federal Reserve’s sale of its holdings adds to the surplus of bonds, creating a situation where the market struggles to absorb them.
This diminishing demand is evident in auctions that were once routine, now performing poorly.
Rising Debt Service Burden
With 2.5% of the U.S. economic output already allocated to servicing existing debts, analysts anticipate this figure to reach 4% by 2030. The government, facing substantial deficits and ambitious spending programs, is compelled to continue borrowing. However, identifying reliable lenders becomes a challenge.
Shifting Buyer Landscape
Historically dependable buyers like China and Japan have reduced their Treasury holdings to support their currencies, significantly decreasing their share from a decade ago.
The Ukraine war has diminished demand among Eastern European buyers, and increased U.S. oil production reduces petrodollars available for reinvestment through the Treasury market.
Banks And Investor Behavior
U.S. banks, having parked deposits in government bonds during the pandemic, are now stepping back as demand for loans increases and deposit gluts ease. Some banks, facing paper losses on Treasury bonds, are hesitant to increase their holdings.
Challenges For Treasury Market
The Treasury market, known for its depth and liquidity, plays a crucial role in broader financial markets. Recent disruptions have triggered debates on the safety and effectiveness of Treasury bonds, as highlighted by incidents in 2019, during the early pandemic days, and the Silicon Valley Bank failure.
Debate Over Fed Targets
Market price swings are attributed to a debate on whether the Federal Reserve will achieve its 2% inflation target or aim for a higher rate closer to 3%. While some argue that new sources of Treasury demand from tech companies and potential Chinese investments will sustain the market, uncertainties persist.
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Source: Semafor
