No, Higher Deficits Don ’t Raise Long-Term Interest Rates

According to former Reagan adviserMartin Feldstein, “Higher projected budget deficits could raise long-term interest rates, potentially triggering… a serious economic downturn.”Has thateverhappened?From 1977 to 1981 10-year bond yields nearly doubled, rising from about 7.4% to 13.9%, but budget deficits were relatively small, around 2.5% of GDP.   Budget deficits were doubled from 1984 to 1993 (about 5% of GDP), yet bond yields were nearly cut in half, falling from 12.4% to 5.9%. Bond yields were no lower from 1997 to 2000 when the budget moved into surplus. But yields fell dramatically in 2008-2012, a period of record budget deficits.One possible objection is that larger budget deficits were caused by recessions, which is why bond yields did not rise with larger deficits or fall with surpluses.   The graph addresses this concern by usingCBO estimates [.xls] ofcyclically-adjusted budgets ( “with automatic stabilizers,” in CBO vocabulary). Still, there is clearly no correlation between bond yields and any measure of yearly budget deficits and surpluses. And that is also true in other times and places – Japan’s chronic large deficits and debt being an obvious example.Another possible objection centers on Feldstein ’s use of the phrase “projected budget deficits,” as though the CBO’s notoriously inaccurate long-run projections could somehow have an entirely different effect from actual deficits. I criticized the analysis and evidence behind that conjec...
Source: Cato-at-liberty - Category: American Health Authors: Source Type: blogs