The Fed's QE Exit Will More Than Quadruple Interest Costs For The US

With the Fed now openly warning that there may actually come a time when the 'flow' stops; the most recent Treasury Borrowing Advisory Committee (TBAC) report has some concerning statistics for those change-ridden hopers who see a smooth Fed exit, deficit-reduction, and blue skies ahead.  While they are careful not shout 'sell' in a crowded bond market; hidden deep in the 126 page presentation are two charts that bear significant attention. The first shows what TBAC expects (given the market's expectations) to happen to interest rates in the US as the Fed 'exits' its QE program (taper, unwind, hold) - the result, the weighted-average cost of financing for the US government will almost triple from around 1.6% to around 4.3% over the next ten years. But more problematic is that even with CBO's rather conservative estimates of the growth in US debt over the next decade the USD cost of financing will explode from around $205bn (based on TBAC data) to over $855bn. Still convinced the Fed can exit smoothly?

As TBAC warns:

Treasury yields could reprice notably when the market is convinced that policy tightening is imminent

There is a risk that markets may overshoot to higher-than-fair yield levels due to:

• Concerns about Fed portfolio unwind
• Inadequate interest hedging in certain asset classes
• Portfolio rebalancing by retail investors

Annual interest cost on public debt to increase more than 400% (from $205 bn in 2013 to $855 bn in 2023)

• Main driver : Increase in WAC from 1.7% to 4.3%
• Secondary factor : ~ 65% increase in stock of debt

Given the market's expectations for Fed tapering (or gradual tightening)...

The marginal cost of financing will rise significantly...

but with the sheer size of debt now (and growing), that will balloon the absolute cost of servicing US debt to over $850bn per year...

And just what happens to all those retirees - who need yield - who are being herded into stocks when Treasuries pay over 4.5%? Would seem bullish for bond flows... think Japan...

Charts: TBAC

Comments

[Kreditanstalt]

The Fed will NEVER exit.  Why do they have to?  They can print money!  The bond market is captive: overseas and other holders of USD have no other place to go, and certainly no other place with the Holy Grail of YIELD.

QEternity it is...and no one will ever care.

[Van Halen]

Question - I hope this ties in well with the topic here...

(I think I've got this right) Slovenia is running into debt trouble and may need a bailout. To stave that off, they decide to auction treasuries and bonds. But today, per the article link below, they are downgraded to junk status. Slovenia cheerfully ignores this news and says everything will be fine, as they already started lining up buyers and the buyers are going to stay. Additionally, more buyers are already interested.

My question is, How is it that ANYONE would be tempted to either stay or enter into buying Slovenian bonds NOW reduced to junk? Isn't this scenario the EXACT same thing that started Cyprus down their path to destruction? Is someone high up advising someone else, like another bank, to buy the junk bonds only to wait until they're bought and bring the hammer down?

Any input is appreciated. Article link below. Thanks in advance!

http://www.reuters.com/article/2013/05/01/slovenia-bond-idUSL6N0DI161201...

[Diogenes]

That's not how it starts. That's how it ends. They don't give a shit, they will sell bonds as long as someone will buy, any interest rate, any discount, it doesn't matter if you have no intention of paying it back whatever you get is gravy.

As long as they find fresh suckers to buy more bonds they can afford to use part of it to pay the interest.

As long as they pay high interest some 27 year old hot shot at some financial institution will buy it.

That's how a Ponzi scheme works.

[Hohum]

Since the Fed purchases collateral (MBS and UST and who knows) with its funny money, when will the MBS run out?

[Anonymouse]

Eyeballing this chart for the figures, I subtracted the change in cost of financing from the change in the debt levels.  I think this is right.  It would imply the following annual deficits <insert laugh track here>

2014  680

2015  760

2016  230

2017  410

2018  900

2019  525

2020  730

2021  945

2022  1030

2023  940

Gosh, it's going down while Obama is president and goes up after.  We better get a third term.  Stat!

[Youri Carma]

Fed pulls a Dr. Jekyll and Mr. Hyde http://blogs.marketwatch.com/thetell/2013/05/01/fed-pulls-a-doctor-jekyll-and-mr-hyde/   It’s all big pack of propaganda lies because the FED can’t back away from the stimulus anymore, they’ve painted themselves in a corner.

If anything they've got to prop up the amount of stimulus to get the same ridiculously few percentages of GDP growth again.

We’ve explained that many times in the past. But OK here we go again: (See Article on Top)

[Lednbrass]

WTF Tylers?

Your interest number is wrong, according to the Treasury the US has already paid $192 billion in interest during the first six months of this fiscal year (2013), on what planet will it end up at $205 billion?

http://www.treasurydirect.gov/govt/reports/ir/ir.htm

You guys should know better- do your homework. That was seriously lazy.

[andrewp111]

That same website shows the interest expense for numerous past fiscal years as well - from 1996 onward it has varied between 350 and 450 billion.

2012

$359,796,008,919.49

2011

$454,393,280,417.03

2010

$413,954,825,362.17

2009

$383,071,060,815.42

2008

$451,154,049,950.63

2007

$429,977,998,108.20

2006

$405,872,109,315.83

2005

$352,350,252,507.90

2004

$321,566,323,971.29

2003

$318,148,529,151.51

2002

$332,536,958,599.42

2001

$359,507,635,242.41

2000

$361,997,734,302.36

1999

$353,511,471,722.87

1998

$363,823,722,920.26

1997

$355,795,834,214.66

1996

$343,955,076,695.15

1995

$332,413,555,030.62

1994

$296,277,764,246.26

1993

$292,502,219,484.25

1992

$292,361,073,070.74

1991

$286,021,921,181.04

1990

$264,852,544,615.90

1989

$240,863,231,535.71

1988 $214,145,028,847.73

Of course, they are not subtracting the interest that the government pays to itself. As more bonds are held by the Fed, more of that interest expense is returned to the Treasury as Seigniorage income.

Now I don't agree that ending QE will send rates higher. The past intervals between QE episodes have actually seen rates drop slightly.

[polo007]

http://www.businessweek.com/printer/articles/113258-why-the-fed-worries-inflation-is-too-low

Why the Fed Worries Inflation is too Low
 
By Peter Coy

May 01, 2013

The Federal Reserve’s rate-setters announced on Wednesday that they are forging ahead with ultra-easy money, in part because inflation is running “somewhat below” the Fed’s target of 2 percent. The Federal Open Market Committee said it will leave the funds rate where it is, just above zero, and keep buying bonds at a pace of $85 billion a month.
 
This might strike some readers as odd. Why does the Fed want prices to go up? Isn’t inflation bad? And even if you buy the idea that a little inflation is good, who says inflation is running under 2 percent? It certainly doesn’t feel that way to families that are having trouble making ends meet.
 
First, the Fed’s policymakers want prices to go up because they believe that a little bit of inflation is good for growth. The Fed wants interest rates to be below the rate of inflation to give homeowners and businesses a strong incentive to borrow and spend, generating jobs. The Fed can’t do that if there’s no inflation because interest rates can’t be lower than zero.
 
Second, inflation really is below 2 percent. Over the past year through March, consumer prices rose just 1.5 percent. Excluding food and energy, which jump around a lot, consumer prices rose 1.9 percent. That’s according to the Consumer Price Index of the U.S. Labor Department’s Bureau of Labor Statistics.
 
The Federal Reserve prefers to use a separate measure of inflation that shows even lower inflation—namely, the price index used by the U.S. Commerce Department in calculating personal consumption expenditures (PCE) for its reports on gross domestic product. A report on Wednesday by economists at JPMorgan Chase (JPM) delves into the differences between the CPI of the Labor Department and Commerce’s so-called PCE deflator .
 
In the first quarter of 2013, says JPMorgan, the CPI grew 1.7 percent from a year earlier, while the PCE deflator grew just 1.2 percent. The CPI has outpaced the PCE price index by an average of 0.4 percentage points per quarter since 2011.