July 2, 2025
America’s national debt is approaching a critical threshold. At nearly 100% of gross domestic product (GDP) during peacetime, levels not seen since World War II, the fiscal trajectory is raising important questions for investors. While headlines focus on the staggering $28.9 trillion figure, the real question is not whether the debt is large, but whether America’s economy can manage the adjustments ahead. For investors, understanding this fiscal reality is crucial for navigating the opportunities and challenges high debt levels will create.
The issue is not just the current U.S. debt level, it is the trajectory. The Congressional Budget Office projects by the middle of the century, the debt could exceed 150% of the economy. These projections already assume the Tax Cuts and Jobs Act (TCJA) will expire at the end of this year and there are no additional cuts. If the TCJA is extended or made permanent, or if additional spending measures like the proposed One Big Beautiful Bill Act are approved, the debt path becomes even steeper. Current estimates also do not account for future economic disruptions like tariffs or policy decisions that may affect government revenue or increase spending.
This continued upward trajectory represents a fundamental shift. What was once cyclical borrowing during recessions is now a permanent condition. Spending is rising faster than income, and that gap will continue to widen without action. These deficits are no longer a short-term imbalance but a long-term structural issue.
Since 1990, the United States added more than $26 trillion to the national debt. This outcome is not the result of a single administration or political ideology. Both parties have supported tax reductions, spending increases, and emergency relief during times of crisis.
It is normal for deficits to rise during recessions. Economic downturns reduce tax revenues and increase the need for public assistance. More concerning is the rise in deficits during times of strong economic growth (Chart 1). For example, from 2016 through 2019, the economy was healthy. Unemployment was low. Yet the government continued to spend more than it collected, in large part due to reduced revenue from tax cuts. Pandemic relief further accelerated the imbalance, producing a record deficit of over $3 trillion dollars in 2020 followed by annual deficits above $1.4 trillion.
The challenge becomes clear when you look at how the federal government spends money (Chart 2). Almost three-quarters of the budget is devoted to mandatory social insurance programs including Social Security, Medicare, and Medicaid. These programs run on autopilot and continue to grow as the population ages. By the end of this decade, it is projected there will be more Americans over the age of 65 than under the age of 18.
Only a small portion of the budget is considered flexible. That category (non-defense discretionary) includes education, transportation, and many of the day-to-day operations of the federal government. Cutting all non-defense discretionary spending would still not be enough to eliminate the deficit.
Another growing burden is interest. For many years, the government could borrow at very low rates. Today, borrowing costs have climbed. Interest payments are now approaching $1 trillion per year, which is more than the government spends on national defense. As more money goes to interest, less remains for other priorities such as infrastructure, education and growth initiatives.
The government currently holds over $28.9 trillion in debt. Over the next three years, it will have to refinance almost $15 trillion and borrow another $5 trillion, assuming budget deficits continue. Much of the existing debt carries interest rates below 3%. Refinancing at current rates, which are now between 4-5%, will increase the cost of borrowing significantly.
Credit rating agencies have already warned that further downgrades are possible. If investors begin demanding even higher rates in return for taking on U.S. debt, the situation could escalate. Interest payments would consume an even greater share of the federal budget.
Eventually, policymakers will face a choice. They can reduce spending, raise taxes, or attempt a combination of both. The United States still has options. It remains one of the most productive and innovative economies in the world, but the clock is ticking.
Compared to other developed nations, the United States collects a relatively small amount of tax revenue relative to the size of its economy. In 2023, the United States ranked 32nd out of the 38 countries in the Organization for Economic Co-operation and Development (OECD) for tax-to-GDP ratio. This means there is room to raise revenue without matching the levels seen in other advanced economies. All Americans benefited from declining effective tax rates over the past twenty years (Chart 3). That trend may not be sustainable.
The last time U.S. interest expenses were near today’s levels was in the early 1990s. In 1991, net interest outlays peaked at about 3.2% of GDP, comparable to current levels (Chart 4). Through a combination of targeted tax increases, spending restraint, and strong economic growth, the federal government steadily reduced deficits and ultimately achieved budget surpluses from 1998 through 2001 (Chart 1).
That period demonstrates how fiscal discipline can help stabilize government finances even in the face of high debt servicing costs. While today’s challenges are unique, the 1990s experience suggests that a balanced approach, careful spending control combined with sustainable revenue measures, can put the U.S. back on a path toward fiscal sustainability. The key will be timely action before rising interest expenses further strain the budget and limit policy flexibility.
For additional context on how bond markets influence fiscal policy, see last year’s newsletter, The Bond Market’s Role in Shaping U.S. Fiscal Responsibility.
The storm clouds are gathering, but that does not mean we are in the path of a fiscal hurricane. America’s debt burden is growing, and we expect market volatility as the government confronts rising interest costs and the need for serious fiscal adjustments. Even in this challenging environment, the U.S. economy remains an engine of innovation, resilience, and wealth creation.
We believe higher taxes and reduced government spending are likely, and necessary, policy responses. While these changes may be uncomfortable in the short run, they are achievable given the strength of America’s private sector and its history of adapting to economic and political change. Markets have weathered storms before. The United States still has the capacity, and economic strength, to navigate this storm and come out stronger on the other side.
To explore these themes in more detail, we invite you to watch our 2025 Annual Economic Forum: Tariffs, Deficits, and Interest Rates…Oh My!
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Top Row L to R: Brad Engle, Mike Sullivan, Sebrina Ivey, Christian Lewton, Jason Kitner
Bottom Row L to R: Carin Wagner, Angela Kennedy Lee, Jenny Merges, Brian Friedman, Deirdre Mcguire, Barbara Terrazas, Reed McCoy
