U.S. Interest Payments A Growing Fiscal Menace : It's All Politics Interest payments on the national debt are forecast by 2018 to crowd out much of U.S. spending. Experts worry that the deteriorating fiscal situation could drive up the interest rates the U.S. must pay, further worsening the situation.

U.S. Interest Payments A Growing Fiscal Menace

A trader at the New York Stock Exchange, May 2010. Richard Drew/ASSOCIATED PRESS hide caption

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A trader at the New York Stock Exchange, May 2010.


While Social Security, Medicare, Medicaid and defense spending have gotten much attention for their roles in the nation's fiscal plight, the interest payments the nation is required to make on its debt haven't been spotlighted nearly as much.

But that seems set to change. First, President Obama, at his Tuesday news conference, unintentionally moved the issue of the interest on the debt up in the national discussion by claiming that his budget proposals would mean that by mid-decade federal spending wouldn't be adding to the national debt.

That statement proved to be misleading, however, since the president seemed not to count interest in his calculation. Republicans are accusing the president of, at best, dishonesty because of this.

Meanwhile, the introduction of the president's latest budget proposal as well as the budget battle on Capitol Hill has caused the news media to focus this week on just how frightening the interest payment picture is making the future for the federal government and Americans generally.

The Washington Post, for instance, reported:

Starting in 2014, net interest payments will surpass the amount spent on education, transportation, energy and all other discretionary programs outside defense. In 2018, they will outstrip Medicare spending. Only the amounts spent on defense and Social Security would remain bigger under the president's plan.

The soaring bill for interest payments is one of the biggest obstacles to balancing the federal budget, pushing the White House and Congress to come up with cuts deeper than previously imagined. Unlike with discretionary spending or even entitlement programs, the line item for interest payments cannot be altered except through other budget cuts.

The phenomenon is a bit like running up the down escalator. Without interest payments, the president's plan would balance the budget by 2017. But net interest payments that year are expected to reach $627 billion, up from $207 billion in the current fiscal year.

"This goes to the heart of why we have to address our fiscal problems," said Mark Zandi, co-founder and chief economist at Moody's Economy.com. "If we don't, we're going to get swamped by our interest payments."

The interest payment situation is obviously a clear and present danger.

Among the concerns is that the U.S. debt load will become so burdensome, that investors will get skittish about the U.S. balance sheet and demand higher interest rates to invest in U.S. Treasury bonds.

That would only make the interest payment situation worse and take away one of the few bright spots when it comes to the national debt in recent years — the relatively low interest rates the U.S. has been able to borrow at because of the perception of international investors that it is the ultimate safe haven for the money.

Bloomberg News reported earlier in the week that some in the financial markets are wondering if it will take the bond traders finally signalling their intolerance with the U.S. finances to get dramatic action from Washington. (Bloomberg also provided a link to the a recent presentation the U.S. Treasury gave bond investors.)

"The market is still giving the U.S. government the benefit of the doubt," said Eric Pellicciaro, New York-based head of global rates investments at BlackRock Inc., which manages about $3.56 trillion in assets. "What we're concerned with is whether the budget will only be corrected after the market has tested them. Will we need some kind of disruption within the bond market before they'll actually do anything."

If that should happen, it would be only the latest example of how the bond markets can get the attention of U.S. policymakers in powerful, inescapable ways.

One of the best known recent examples of this happened to President Bill Clinton.

In his book "The Agenda" Bob Woodward reported that it actually happened even before President Bill Clinton took office. Clinton was confronted with the power of the bond traders to dictate his plans during an economic briefing he received from Princeton University Alan Blinder. From pages 73-74:

At the president-elect's end of the table, Clinton's face turned red with anger and disbelief. "You mean to tell me that the success of the program and my re-election hinges on the Federal Reserve and a bunch of (expletive deleted) bond traders?" he responded in a half whisper.

Nods from his end of the table. Not a dissent.

Clinton, it seemed to Blinder, perceived at this moment how much of his fate was passing into the hands of the unelected Greenspan and the bond market.