US government debt is climbing.
The Congressional Budget Office estimates show that “debt held by the public” is 99% of US GDP in 2024, and projected to rise.
Is there a point where investors around the world might hesitate to buy more US government debt? For example, at some point investors might feel as if they had enough US government debt in their portfolios, and prefer to look at other options. Or at an extreme, global investors might suspect that the US government might be tempted to use inflation or other mechanisms to reduce the real value of what it needs to repay. Here, I don’t want to speculate about probabilities of different scenarios, but to ask the practical question: what data might tell us if this scenario is unfolding? David Wessel offers guidance in his essay: “How to tell if the US Treasury is having trouble borrowing in the bond market” (Hutchins Center on Fiscal and Monetary Policy at the Brookings Institution, July 23, 2024).
The basic fact to understand here is that when the US Treasury issues debt, it does so through an auction: that is, those who are willing to pay higher interest rates will “win” the auction and obtain the Treasury bills and bonds. As a result, it’s very unlikely that an auction of US Treasury debt would literally fail, in the sense that there wouldn’t be “enough” bidders to absorb the debt. Instead, if many global investor were less willing to supply capital to the US Treasury, the interest rate paid by the Treasury would rise. But as Wessel points out, there are behind-the-scenes measures of whether there are “enough” bidders to buy US Treasury debt.
One measure is the share of debt at any auction purchased by “primary dealers.” Wessel explains:
Immediately after each auction, the Treasury discloses what fraction of successful bids were from primary dealers. These two dozen investment firms, designated by the Federal Reserve Bank of New York, are expected to bid in all Treasury auctions at reasonably competitive prices on a pro rata basis; that is, if there are 25 primary dealers, each is supposed to bid for at least 4% of each auction. In a sense, they are the bidders of last resort. If primary dealers take an unusually large share of an action, that’s seen as sign of weaker demand from others than market makers anticipated.
The primary dealers then plan to resell US Treasury debt in secondary markets over time. During the pandemic, the share of federal debt being purchased by primary dealers went up, but now it seems to have fallen back.
Another measure looks at the total bids for Treasury debt in a given auction, compared to the total amount of debt being offered at that auction. In a truly failed auction, the “bid-to-cover” ratio would fall below 1. Here, the pattern seems to be that the bid-to-cover ratio for Treasury debt rose substantially during and after the Great Recession of 2007-9, but the ratio has now fallen back to levels from 15 years ago.
Another measure looks at the total bids for Treasury debt in a given auction, compared to the total amount of debt being offered at that auction. In a truly failed auction, the “bid-to-cover” ratio would fall below 1. Here, the pattern seems to be that the bid-to-cover ratio for Treasury debt rose substantially during and after the Great Recession of 2007-9, but the ratio has now fallen back to levels from 15 years ago.
There are reasons for concern about the functioning of the broader market for Treasury debt. As Wessel points out:
In the past few years, there have been a few disruptions to the Treasury market—unusual volatility or a sudden spike in yields—that suggest that at times of stress, the market may not be as liquid as it once was. In March 2020, at the onset of the pandemic, so many institutional investors wanted to raise cash by selling Treasuries that the Fed bought $1 trillion in Treasuries over three weeks “to restore normal market functioning.” Such episodes underscore that the stock of U.S. Treasuries outstanding is growing faster, while the capacity of banks and dealers to serve as middlemen has been shrinking …
But at least for now, the concern that there might at some point be insufficient buyers for Treasury debt–even at higher interest rates–isn’t showing up in the auction data.