Trump May Ramp Up Short-Term U.S. Treasury Issuance Amidst $3.4 Trillion Deficit from Tax Bill

TradingKey - To tackle the impending deficit surge due to the tax cut bill, the Trump administration might resort to issuing a significant amount of short-term U.S. Treasury bills. Anticipation of this move has already led to a noticeable increase in short-term yields.

The yield on one-month Treasury bills has been rising for over a week, reaching a two-week high around 4.3%.

Growing Deficit Pushes Trump Towards Short-Term Debt Issuance

With the passage of the tax cut bill, the U.S. deficit problem is set to become more severe. According to the Congressional Budget Office (CBO), the bill will add as much as $3.4 trillion to the deficit from fiscal years 2025 to 2034.

The CBO analysis suggests that while the bill is expected to boost GDP by an average of 0.5% annually, reducing the deficit by about $85 billion, rising interest rates will increase financing costs, leading to an expanded deficit in the long term.

Currently, the U.S. Treasury is already burdened by high debt, with interest payments exceeding $92 billion in May alone. In this scenario, lower-interest short-term debt becomes more attractive to the government.

As Trump mentioned in an interview, he prefers not to pay higher rates on ten-year debt. Although yields on short-term debt of one year or less have climbed past 4%, they are still significantly lower than the nearly 4.35% yield on ten-year Treasuries.

According to Wall Street Journal senior central bank reporter Greg Ip, the Treasury Department has indicated a preference for issuing short-term debt to avoid pushing up long-term rates, which could impact government financing costs.

Low-Cost Financing: The Real Motive Behind Pressuring the Fed to Cut Rates

Financing through lower-rate short-term bonds can save the U.S. government a considerable sum, but it does carry risks. A Canadian bond portfolio manager noted that financing with very short-term bonds could lead to a sharp rise in costs if unexpected shocks occur, such as a sudden increase in inflation that forces the Fed to raise rates, driving up bond yields and financing costs. During an economic recession, demand for short-term debt might be suppressed.

To avoid a spike in financing costs, Trump's approach is that "We’re gonna get somebody into the Fed who’s going to be able to lower," this also underlines Trump's recent calls for rate cuts, primarily for fiscal reasons—to support the tax cut bill.

Ip explained that when a central bank prioritizes government financing over employment and inflation, it results in a phenomenon known as "fiscal dominance." Although this approach might strongly stimulate the economy, and potentially drive stock markets to new highs under such expectations, he cautioned that it often results in a combination of inflation, crises, and economic stagnation.

Currently, the market is anticipating a heavy issuance of short-term debt, with short-term yields continuing to climb. The one-year Treasury yield has been on the rise for two weeks, reaching around 4.1%, the highest in half a month; the three-month Treasury yield has been consistently climbing for half a month, currently holding steady at a high level of around 4.4%, reflecting market concerns.