Nominal interest rates on US government debt are at historical lows. Today’s Treasury yield curve data shows the following:
The longest maturity bond the federal government currently issues is 30 years, with a yield today of 2.22 percent. With an inflation rate of 2 percent of less, this means the federal government can borrow at a real rate close to 0 (zero) percent.
For five years, I’ve proposed that the federal government take advantage of these low rates and borrow funds for infrastructure investment, early childhood education, or any number of projects that clearly have positive long-term rates of return. This idea has gone nowhere in today’s political climate.
So, how about this: why doesn’t the U.S. government issue consols? Consols are perpetual bonds, that is, they are IOUs with no maturity date. Buyers are willing to purchase consols because they are safe and promise a stream of fixed interest payments for as long as the bond circulates.
The federal government could either refinance much of the current national debt or issue new debt to finance infrastructure and issue consols at less than 3 percent interest. This would lock in the interest cost of the debt and reduce the share of the budget devoted to interest payments over time.
It seems to me that this is a no-brainer, something that the federal government (and, perhaps, large states such as California) should take advantage of in the current low-interest-rate environment.
I must be missing something, right? One way or another we shouldn’t let this low-interest opportunity pass us by.
Update – September 15
I just came across a paper by John Cochrane, “A New Structure for U.S. Federal Debt.” (Ungated version here, published in David Wessel, ed., The $13 Trillion Question: Managing the U.S. Government’s Debt.) Cochrane argues for consols, but goes far beyond the simple, perpetual debt I mentioned above. He summarizes his proposals this way: “I introduced fixed- value floating- rate, indexed and nominal fixed coupon perpetuities, in taxable and tax- free form, and long- term debt that allows reductions in coupon payments (p. 138).” That is, Cochrane advocates that the US government develop a variety of modern debt instruments that would reshape the way the Treasury manages the federal debt.
Cochrane points out that, as I noted above, this type of debt would “allow the United States to borrow more and at lower interest rates.” He doesn’t like this idea, and hopes “that our democracy is strong enough to limit its borrowing, spending, and taxation voluntarily, and not by tying our government to deliberately inefficient tax and debt structures (p. 138).”
Cochrane’s concluding paragraphs (pp. 138-139) deserve to be quoted verbatim:
As I write in spring 2015, it is a benign moment for U.S. debt. Interest rates are at historic lows, interest rate volatility is low, and inflation is nearly nonexistent. U.S. government debt remains a safe haven. Few outside the regulatory agencies and academia are worrying about financial stability and how much it could be improved by the diff usion of fixed-value run-proof Treasury debt. Hedging inflation risk, hedging interest rate risk, and avoiding the taxation of Treasury interest are not high on the public agenda. These facts are unheralded benefits of a zero- rate, zero- inflation configuration. Planning for fiscal shocks in which the United States has trouble borrowing or rolling over debt is not high on many agendas, either.
But benign times may not last. The Federal Reserve is determined to raise inflation and thereby interest rates and interest rate volatility if it can do so. The long-term debt situation is dire. If history is any guide, new and unexpected challenges will arise.
But the fact that many issues are not pressing makes this moment an ideal one to restructure federal debt. The calm before the storm is a good time to fix the sails.
Indeed. We should get to work on this before the storm clouds gather and the waves start to rise. And, it might even be time to think about this at the state level too.