While these numbers appear unfavorable, it isn’t clear when debt becomes unsustainable or has a negative impact on economic growth. Such residual effects are possible because increased taxes lower federal government spending or both, aimed at lowering the debt, could be detrimental to the economy. “Many developed countries, such as Japan, have faced high debt-to-GDP levels, and still found ways to grow their economy,” says Merz. Haworth says the more a country’s citizens own the debt (as opposed to central banks or foreign buyers), the more markets will be forgiving about the size of the debt.
Haworth also points out that much of the nation’s long-term debt problem centers on funding commitments for Social Security and Medicare. “We have an aging population and fewer workers in succeeding generations to pay the costs of these programs,” says Haworth. “These are manageable budget matters, but they are not yet on voters’ radar, so Congress hasn’t yet seriously considered solutions to them.”
Potential investment implications of the rising national debt
While growing government debt draws increasing attention, an important question for investors is what the potential impact is on the long-term interest rate environment. What could it mean for fixed income and equity portfolios?
Merz believes the U.S. position relative to the global economy remains strong, which allows the federal government more time to address the debt situation before it results in significant economic ramifications.
Haworth says interest rates matter for equity investors because higher rates make bonds more competitive with stocks. “When the Fed began raising interest rates in 2022, price-to-earnings multiples for stocks were compressed.” In other words, investors demanded evidence of higher earnings to push up stock prices. “With interest rates stabilized since mid-2023, we’ve seen no further compression. Stock valuations are higher today, reflecting both higher earnings and expectations that rates will likely go down from here,” says Haworth. “If we are surprised and interest rates reset significantly higher from here, it could put more pressure on stock prices.”
Investors may wish to consider overweight positions in equities and real assets (such as commodities and real estate) to capitalize on continued economic growth and to counter higher inflation. Fixed income holdings may be positioned with a modestly less-than-neutral weighting. However, Treasury securities and other fixed income investments should continue to play an important role in a broadly-diversified portfolio. U.S. Bank will closely monitor the government’s increasing debt burden and policies that influence long-run sustainability for signs of change in the broader investment landscape. Consider talking with your financial professional to make sure you have a comfort level with your current plan and investment position.