Should we be concerned about the US debt mountain?

Keytrade Bank

keytradebank.be

July 14, 2025

3 minutes to read

The swelling US government debt shows that even superpowers can trip over their own ambitions. But has this made 'safe' US investments far riskier for investors?

What is happening with US government debt?

US government debt is gradually climbing to its highest level since World War II. While in the 1940s it made perfect sense to accumulate debt to finance a world war and kick-start the economy, today there is no such trigger. There is no global crisis of the same scale, no vast recovery programme, no costly military mobilisation. And yet the debt level continues to rocket.

The US government is currently borrowing more than the country’s total annual economic output (over 120% of GDP). In absolute figures, the federal debt mountain is more than $36,200 billion (as at July 2025), after increasing by $1,500 billion in a single year.

The US has to pay interest on all that debt. Last year, this interest was $1,130 billion. To put this in perspective: this is more than the country's entire defence budget. Interest costs are in danger of rising further. By the end of May 2025, the US government had already paid $776 billion in interest.

Why is it that the US government debt keeps on rising?

1. For years, the government has been spending far more than it receives in taxes

Both Republican and Democratic governments have contributed to this. Major tax cuts have reduced revenues, defence spending has been high, the 2008 financial crisis triggered stimulus measures, the coronavirus pandemic resulted in huge aid packages, and other aid programmes pushed up spending even more. But even in years when there was no crisis, the government spent more than it received. According to the Congressional Budget Office, Trump's new package of tax cuts and additional expenditure (the "big, beautiful bill") is set to increase government debt by over $3,000 billion in the coming years.

2. Higher interest rate

In 2022, the US Federal Reserve cut off the money supply and hastily raised policy rates to cool inflation. As a result, long-term government bond yields went up: US 10-year rates, for example, climbed from barely 0.6% in mid-2020 to 4.5%-5% by the end of 2023. These rate hikes had two consequences. First, they caused the government's own interest costs to skyrocket – money that could otherwise have gone to other budgets such as education, healthcare and infrastructure. Secondly, because of the higher debt , investors have been demanding ever higher yields on new US bonds. This could lead to a vicious cycle of higher deficits → more bond issues → higher interest rates → even higher interest charges and deficits, and so on.

3. Refinancing need

The US government is borrowing money to pay its interest. This is like using a new credit card to pay off the old one. In the coming years, the US will also have to refinance huge amounts of existing debt. This is normal - the government typically borrows with shorter maturities - but where previously it could do so at 1-2%, it now has to refinance at 4-5%. Investors see this mountain of debt as becoming unsustainable faster, as a larger share of the budget is spent on interest each year. In addition to the existing debts, new deficits have to be financed again by issuing bonds.

4. Rating downgrades

After Standard & Poor’s first US credit rating downgrade in 2011, nothing happened for more than a decade, but then Fitch also removed its AAA status in August 2023. And recently Moody’s was the final one of the three major rating agencies to downgrade the prestigious AAA rating of the US. America has therefore lost its highest rating. Moody’s explained that there is no credible plan to stabilise the debt ratio, let alone reduce it. While this news did not come out of the blue, it did remind investors again of the risk. In the event of a rating downgrade, bond investors typically demand a higher risk premium, causing interest rates to rise even more.

5. Spending accelerated by demographic shift

One factor that further complicates the problem is the ageing population. As baby boomers retire, social spending increases. The Congressional Budget Office predicts this demographic shift will further drive up spending to 26.6% of GDP by 2055, compared to 23.3% today. Besides increasing spending, the ageing population is also reducing the ratio of working people to pensioners. This means there are fewer taxpayers to bear the growing costs, which could worsen the debt dynamics.

How are the markets responding?

Are these concerns visible in financial markets already? Yes, to some extent they are. The price of US government securities (Treasuries) has fallen recently, and yields have risen. This shows that given the rising debt and interest rates, investors are demanding more money to lend money to the US government. In other words, the bond market is starting to factor in an additional risk premium for US Treasuries.

An additional challenge is that the dollar has weakened in recent months. After President Trump announced his high import tariffs on Liberation Day, something happened that economists had not expected: the dollar sank. The dollar normally strengthens in times of uncertainty and panic, as investors tend to rush to the US for cover. This time, investors fled the US.

The US Federal Reserve is also under constant political pressure (particularly from Republican quarters), which seems to hamper its independence. This creates distrust: investors are afraid that interest rate cuts will come too soon, weakening the dollar and Treasuries. Congress has already raised the debt ceiling 78 times since 1960, with these confrontations becoming increasingly charged and risky. This is also repeatedly causing investor unease.

In the long run, ever-increasing public debt may crowd out the private sector. This crowding out phenomenon means that the government is absorbing so much capital that there is less left for businesses and consumers to invest and spend. Governments that attract large amounts of available money also tend to push up interest rates for everyone. US government bonds are traditionally considered risk-free and are therefore prioritised by many investors.

What does that mean for your investments?

Rising US government debt and associated sustainability concerns can affect your portfolio on several fronts.

When the US government piles up large deficits year after year, bond investors demand higher yields to compensate for the higher risk. This then translates into rising interest rates on US debt securities. Newly issued bonds offer higher yields, but existing bonds fall in value.
US corporate bonds are also under pressure. When so-called risk-free rates (such as those on Treasuries) go up, corporate bonds have to offer even higher coupons to remain attractive. Companies with weaker balance sheets or a lot of debt see their credit spreads widen and financing costs rise.
Now that the US is being viewed with more scepticism, investors are also looking at bonds from other countries more. They haven't lost confidence in German Bunds as a safe haven, for example. During the April 2025 sell-off (when US Treasuries fell), the Bund market held up remarkably well. This suggests that some international investors are moving their capital from the US to Europe. Other countries with stable currencies and reputations are also emerging as alternatives to US bonds.
These developments are also affecting the equity markets. Higher bond yields make bonds relatively more attractive compared to higher-risk equities, causing some investors to change their asset allocation with fewer equities.
Analysts expect the dollar to weaken further if debt problems persist. A weaker dollar means additional risk to euro investors. If the dollar falls (further), returns on US investments may evaporate or turn into losses when they are converted into euros. For example, the S&P 500 has risen by more than 5% this year (as at 1 July 2025), but the dollar has fallen more than 11% against the euro in that period. This means those who invested in an S&P 500 tracker in euros at the beginning of 2025 are currently in the red, even though the index itself is showing positive results.
The US government's introduction of new import tariffs has resulted in a 'sell America' atmosphere in recent months. This has also pushed up gold prices, a sign that investors have been looking for alternative safe havens away from the dollar.

How to position yourself as an investor

Diversification is key. Make sure your investments are spread across different regions (not just the US) and asset classes. Too much exposure to one country or currency can give rise to unwanted risks. Consider holding European or other international instruments alongside US instruments in your portfolio. Global indices are currently heavily overweight on US equities. It may be worthwhile to be slightly more selective and diversify into other regions or sectors with more favourable valuations, without completely shutting out the US.

In practice, this means actively managing the interest rate risks of bonds. Shorter-term bonds are less affected by interest rate fluctuations and already offer attractive returns today. Longer maturities are only attractive if you believe that interest rates are close to their peak and are set to fall again.

Finally, panic is never a good investment strategy. For the long-term investor, it is important not to get carried away by every alarm signal but to keep looking at the bigger picture. In the long run, a level-headed, diversified approach is usually far better than impulsive decisions.