In just three years, annual interest payments on federal debt have doubled to over $1 trillion, sparking concerns about the U.S. approaching a fiscal cliff. While the interest burden is growing due to rising rates and increasing federal debt, it is important to note that interest payments on federal debt are not outside the historical norm.
Net interest payments as a percentage of total federal outlays have more than doubled since 2021, from just over 5% to more than 13%. However, these payments are still dwarfed by other outlays on entitlements, defense, and infrastructure, which represent 87% of total outlays. Similarly, net interest payments as a percentage of GDP have doubled to just over 3%, but they remain a fraction of non-interest federal outlays, which account for 21% of GDP.
Despite the increase in federal debt as a percentage of GDP from 30% in 1980 to 120% today, the level of public debt does not seem to have a significant impact on the stock market. In fact, historical data suggests that falling levels of debt are associated with poor stock performance, while growing levels of debt are associated with rising equity prices.
While interest payments today are manageable and well within historical ranges, not all public borrowing is the same. Some public projects can provide future returns well above the cost of borrowing to finance them, such as investments in infrastructure or technology. These investments can boost productivity and GDP growth, leading to higher incomes and labor participation.
However, wasteful government spending, which adds to interest payments for no good reason, remains a significant concern. Reports from organizations like the Heritage Foundation highlight examples of waste, fraud, and inefficiency in federal spending, with estimates of billions of dollars being lost to fraudulent actors.
Ultimately, the discussion about increasing federal interest outlays reflects broader debates about government spending priorities. While interest payments on federal debt are not currently a serious problem for U.S. government finances, the effectiveness of different types of government spending and investments remains a key area of concern for policymakers and taxpayers alike.
