International bond markets saw a large increase in yields in October and a corresponding drop in their prices, which move inversely to yields.

The turmoil started in the US, where the yield on 10-year US Treasuries briefly exceeded 5% for the first time in 16 years.

This development had two causes: First, the US central bank (Fed) convinced the markets that it will keep its key interest rate high for a long time to ensure that inflation falls to its 2% target. The median forecast by Fed officials in September was for the rate to reach 5.6% at the end of 2023 and move above 4% at the end of 2024.

Second, US government debt continues to grow at a frantic pace, fueling investor concern following the downgrade by credit rating agency Fitch in August. The American debt has exceeded 33 trillion. dollars or 122% of GDP, a record level since World War II, while its interest spending jumped 39% in the fiscal year that ended in September, to $659 billion.

The Congressional Budget Office estimates that interest spending could double over the next decade and become the largest item in the budget, behind social or defense spending. This means that the US debt takes on a dynamic that can lead to a vicious cycle as, if interest rates remain high, interest will increase the debt, which in turn will increase interest.

Bond investors see this risk and demand higher yields to buy the bonds, which the US government is issuing at a blistering pace to cover huge budget deficits. Many big buyers, in fact, such as US banks and foreign sovereign wealth funds, have reduced their purchases.

The data on the progress of the budget, which were announced during the last week, caused new concern. The deficit in the 12 months to September 2023 doubled compared to the corresponding period last year, exceeding 2 trillion. dollars, a level not recorded since 1950 except in two years of major crises – 2009 and 2020. The concern, however, is that the record deficit this year is not due to a crisis in the US economy as its growth is strong, despite very high interest rates, with GDP growing around 2% in the first half and 4.9% in the third quarter.

The main reasons for the jump in the deficit this year are the decrease in public revenues and higher costs due to inflation.

Income tax revenue plunged $456 billion, largely due to the decline in stock and bond prices in 2022, which wiped out capital gains. Revenue also fell due to tax breaks extended to households and businesses in areas of the US, such as California and others, that were hit by natural disasters.

The benefits provided by this year’s budget were increased by 8.7% due to correspondingly high inflation in 2022. Social Security spending contributed $134 billion to the deficit increase and health (Medicare) spending an additional $92 billion . dollars.

Another reason for the increase in the deficit was that the US government did not have the cash “injection” of previous years from the Fed’s earnings from its bond portfolio as the central bank had to pay high interest this year on the reserves deposited by the commercial banks. banks in it. This loss cost 106 billion. dollars in the budget.

At the same time, the US government was paying high interest rates to its bondholders, adding an additional $184 billion to the deficit.