In 2023, the Treasury’s decision to increase the national debt by $2.6 trillion raised eyebrows, with a noteworthy 77% of it coming from short-term Treasury bills, a departure from the usual reliance on medium-term debt to finance budget deficits.
This shift towards short-term debt issuance, a strategy predominantly employed during the Great Financial Crisis in 2008 and the 2020 Covid-19 pandemic, is unprecedented in its magnitude. Unlike those crises, where bill issuance didn’t reach 77% of the total new debt, the Treasury’s recent move has significant implications.
Over the past decades, the Treasury aimed to lengthen the maturity of its debt, but the surge in short-term debt issuance has counteracted this goal. This approach has led to a reduction in the average maturity and necessitated more frequent rollovers, potentially increasing market volatility.
One possible reason behind this deviation from the norm could be concerns about the market’s capacity to handle a substantial amount of medium-term debt. While short-term debt is typically absorbed smoothly, an excess of medium-term debt can overwhelm the market.
Last year saw nearly $2 trillion rolled over, suggesting that opting for notes instead of bills would have required accommodating a substantial $4 trillion in new medium-term debt, akin to 2020. However, a crucial difference is that in 2020, the Federal Reserve bought most of that debt, acting as a safety net for the market.
— Matt Davio (@MissTrade) January 27, 2024
Secretary Yellen’s actions may be driven by a desire to maintain the stability of the financial system. One possibility is her determination to keep the Treasury market completely stable and avoid risks. This choice, however, comes with an additional $30 billion cost to taxpayers, with plans to address the consequences at a later time.
Another speculation is that Secretary Yellen anticipates a significant and rapid decline in interest rates. Recognizing the limitations of a gradual path, she seems to have placed a substantial $2 trillion bet on a substantial reduction in interest rates, signaling a unique approach in Washington’s financial strategy.