Framing the U.S. debt problem
The United States has a serious fiscal sustainability problem. Gross federal debt recently topped $40 trillion, while debt held by the public sits at approximately 100% of GDP – roughly equivalent to a full year of U.S. economic output (Figure 1). And the “path of travel” doesn’t ease concerns either: The Congressional Budget Office (CBO) projects that debt held by the public will climb to approximately 120% of GDP by 2036.
Figure 1: Debt held by the public as a percentage of GDP, actual trajectory vs. CBO projections at selected points in time
Source: NBC Economics and Strategy (data via the Congressional Budget Office)
That trajectory matters because it means that the U.S. debt burden is being pushed higher by two forces at once: persistent budget deficits and rising interest expense. Net interest payments on the U.S. debt held by the public have soared from $400 billion annually in 2020 to $1.1 trillion annually as of August 2026.
But let us be clear: today’s evidence does not point to an imminent debt crisis.
We are not concerned about the sudden default of the U.S. government on its debt obligations. Instead, alarmist coverage of the U.S. debt problem is obscuring a much more realistic and sobering risk: that if left unchecked, it could trigger a gradual, long-term repricing of fiscal risk all across the global financial system. No dramatic implosion; no D-Day memorialized in financial print; just a future marked by higher real yields, more volatility in long-term interest rates overall, and wider term premiums (the extra compensation for holding a long-term bond).
This is not a debt crisis
A large debt number and higher bond yields do not, by themselves, constitute a debt crisis. While the U.S. faces a significant fiscal challenge, it retains several structural advantages that reduce the likelihood of a classic funding crisis similar to that experienced by Greece circa 2009.
- First, the U.S. borrows in its own currency, and the U.S. dollar’s role as the world’s reserve currency helps support ongoing demand for U.S. government debt, reducing the risk of a sudden funding crisis.
- Second, U.S. Treasuries are at the core of the global financial system, serving as a critical source of liquidity, collateral, and reserve assets for institutions worldwide.
- And third, the government does not need to refinance all its debt at once, meaning higher interest rates are incorporated gradually as existing bonds mature and new debt is issued.
These advantages help explain why the pressures of that eye-popping $40 trillion headline figure have shown up in prices and yields, not through a failed ability to borrow.
A true funding crisis would look very different: failed or severely impaired Treasury auctions, capital flight, a sharp loss of confidence in the U.S. dollar, unanchored inflation expectations, or growing concern that investors will not be repaid in real purchasing-power terms. That is not what we are seeing today.
And despite investors’ natural desire to predict the future, it’s important to remember that true crises tend to happen when risks are underappreciated, markets are complacent, and confidence breaks faster than expected – in other words, by near-total surprise.
The U.S. fiscal problem is serious, but it is certainly not hidden. It is widely discussed, openly debated, and increasingly being reflected in bond prices.
So if this isn’t a debt crisis – then what?
The true litmus test here is whether markets are still willing to finance the U.S. government, to which the answer is still unequivocally “yes” – U.S. Treasuries have no lack of willing and interested investors lining up to purchase them. But those buyers are starting to demand more compensation (Figure 2).
Figure 2: 10-year U.S. Treasury bond yield (percent, daily)
Source: LSEG Datastream and Yardeni Research. Federal Reserve Bond
While typically we think of higher yields in terms of the pain they can inflict on our portfolios (especially for long-duration bond holders), they also represent the market’s way of asking for better compensation when inflation, fiscal uncertainty, or duration risk start to give them pause.
In other words, rising yields are Treasury investors’ way of signaling “we aren’t liking what we’re seeing, so you better sweeten the deal to keep us around”.
Why the debt path matters
The U.S. has reduced its debt burden sharply before, most notably in the wake of World War II, but that outcome relied on conditions that are difficult to repeat: fiscal discipline, strong growth, inflation, capped borrowing costs, and post-war demobilization.
Today’s backdrop is more challenging: debt is even higher, deficits remain persistent, and interest costs are rising. But the U.S. does not need to repay its entire debt burden in one fell swoop. What matters is charting a path that prevents debt from growing faster than the economy. In practical terms, that means stabilizing and eventually reducing the debt-to-GDP ratio.
A more sustainable path will require some mix of smaller deficits, stronger growth, moderate inflation and financing costs that do not rise too quickly. In simple terms, the economy needs to grow fast enough, and borrowing needs to be controlled enough, to keep the debt burden from becoming even harder to carry.
The real risk: Fiscal dominance
If fiscal dominance is measured by how freely the U.S. Federal Reserve (the Fed) can set interest rates and respond to pressures within their mandate like inflation, growth, or market stress, then a growing debt burden can put that fiscal dominance at risk by slowly starting to handcuff the Fed from all directions.
On one hand, the Fed may be tempted to give inflation more runway to help reduce the real burden of older fixed rate debt – but that plan only works if borrowing costs do not rise just as quickly.
On the other hand, the Fed can try to hold borrowing costs below the pace of economic growth, a practice called financial repression. That can help reduce the government’s debt burden over time, but it can also quietly shift the cost to savers and bondholders through lower after-inflation returns.
The trade-off is straightforward: higher rates may be needed to control inflation, but they also raise the government’s interest bill, widen deficits and require more Treasury issuance. If investors worry about that cycle, they may demand even higher yields to lend.
These walls closing in could translate into monetary policy becoming less independent as government financing costs rise. The evidence does not suggest that the U.S. is there today, but it is a risk worth monitoring.
How clients can navigate this environment
For investors, the takeaway here is not to avoid fixed income but rather to own it more deliberately through an active management approach.
Within our Diversified Fixed Income portfolio, for example, we recently took advantage of widening credit spreads to bolster our roster with strong issuers at attractive entry points including an Amazon.com Inc. 5.00% bond due June 12, 2056.
Rather than purchasing Amazon.com Inc.’s bond at issuance at $100.00, we remained patient and purchased it recently at $90.44 with a yield to maturity of 5.64%. For clients, that patience added exposure to a high-quality AA rated global issuer with meaningfully better compensation for the risk.
The portfolio’s top 10 positions reinforce the same objective: durable income, purchasing-power protection and resilience across rate environments. The mix of inflation-linked Government of Canada bonds, high-quality financial and corporate issuers, and floating-rate or reset structures is designed to help clients generate income and preserve flexibility without relying on a single interest-rate outcome.
Our Diversified Fixed Income Pool currently has a shorter than benchmark duration at 4.3 years, compared with 6.9 years for its benchmark, while offering a current yield of 5.38%. The shorter-duration approach has been a consistent feature of the strategy and helps reduce interest rate risk, providing greater resilience in periods of rising yields.
What we’re watching
The U.S. fiscal picture is serious, but it is best understood as a sustainability challenge rather than an imminent debt crisis.
So, in this environment, we believe the key is to watch not just the debt number but market behaviour as a whole to help us weigh whether investors are still just asking for better compensation, or whether confidence in the fiscal path is beginning to weaken.
We are watching three areas:
- Will U.S. longer-term interest rates continue rising as investors demand higher returns for the risk?
- The strength of demand for all terms of U.S. government bonds
- Signs that fiscal pressure is affecting monetary policy credibility and the Fed’s independence
Make no mistake, Fixed Income still has an important role to play in portfolio construction. In an environment where fiscal risks, interest rate volatility, and market dislocations can create both challenges and opportunities, we remain focused on an active management approach that emphasizes quality, manages duration thoughtfully, and selectively allocates capital where compensation for risk is most attractive.
Sources
Congressional Budget Office, The Budget and Economic Outlook: 2026 to 2036; U.S. Treasury fiscal data; market data from Bloomberg and internal portfolio/trade records.
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