U.S. Treasury borrowing costs are rising as federal debt and deficits remain elevated, with interest payments reaching about 3% of GDP. The development has increased attention on the relationship between higher interest rates, the annual budget deficit and the cost of servicing publicly held U.S. government debt.

Key Takeaways

• The U.S. annual federal deficit is approaching 6% of GDP.
• Publicly held federal debt is roughly equal to annual U.S. economic output.
• Interest payments on federal debt have risen to around 3% of GDP.
• Higher global interest rates have increased the cost of U.S. borrowing.
• Large AI infrastructure borrowers have issued about $220 billion of debt this year, competing with the U.S. for global savings.

U.S. Debt Costs Rise as Interest Payments Reach 3% of GDP

U.S. debt costs are increasing as higher interest rates combine with elevated federal borrowing and a deficit approaching 6% of gross domestic product. Interest payments on the national debt have risen to around 3% of GDP, increasing the share of national income required to service federal obligations.

The federal government’s borrowing position has changed as interest rates have moved higher. The relationship between the cost of borrowing and the pace of economic growth is central to the debt calculation because higher financing costs can increase the resources required to service existing obligations.

U.S. government debt has not experienced another credit downgrade, while inflation breakeven rates and the cost of insuring against federal default have not surged. Those measures indicate that U.S. government bonds continue to be viewed by most investors as largely risk-free assets, even as investors have demanded higher interest rates.

The higher interest burden is separate from the headline size of the national debt. Interest payments measure the ongoing flow of national income needed to service the debt, while the debt-to-GDP ratio measures the size of outstanding obligations relative to economic output.

The interest burden has doubled to around 3% of GDP as high deficits, growing debt and higher interest rates combine. That increase gives the cost of borrowing a larger role in the federal government’s fiscal position.

Recent federal budget data also showed the scale of the government’s borrowing requirements. 

Federal Deficits Remain Near Levels Seen During Recessions

The U.S. annual deficit is approaching 6% of GDP, a level associated with periods when government finances have typically expanded to support the economy during recessions. Deficits generally increase during downturns as government spending rises and automatic stabilizers provide support to households and the economy.

The current deficit remains elevated while the economy is not described as being in a recession. That distinguishes the present fiscal position from the traditional use of deficit spending to respond to a sharp economic contraction.

The $40 trillion national debt threshold was reached during August, but the annual deficit provides a different measure of the federal government’s fiscal position. The deficit represents the gap between government spending and tax revenue during a given period, while total debt reflects accumulated borrowing.

The distinction matters for understanding federal finances because a persistent annual deficit adds to outstanding debt. Higher interest rates can then increase the cost associated with financing that debt, creating a direct connection between fiscal deficits and borrowing costs.

Economists generally view a deficit equivalent to about 3% of GDP as manageable. The current U.S. deficit, at close to 6% of GDP, is therefore approximately twice that level.

Publicly Held Debt Reaches Roughly 100% of GDP

The $40 trillion headline figure for U.S. government debt includes obligations that the government owes to itself. About $8 trillion represents such internal holdings, including money associated with government trust funds. The remaining roughly $32 trillion is owed to public creditors, including individuals, foreign governments and the Federal Reserve.

Publicly held debt is roughly equal to 100% of annual U.S. GDP. The ratio compares federal obligations held outside the government with the total value of goods and services produced by the economy during a year.

A separate analysis of the U.S. debt burden has also examined the point at which publicly held federal debt exceeds annual economic output. 

The debt-to-GDP ratio does not by itself establish whether a government’s borrowing level is sustainable. Countries can carry higher or lower ratios depending on economic growth, borrowing costs, fiscal conditions and the ability to maintain access to financing.

The U.S. also has an advantage from issuing the world’s main reserve currency. That position supports demand for U.S. government debt and has helped the country maintain access to funding despite the size of its obligations.

Federal Debt and Economic Growth

The relationship between debt and economic growth is another measure used to assess the federal fiscal position. Former International Monetary Fund chief economist Olivier Blanchard has argued that government debt can be sustainably recycled when the borrowing rate remains below the pace of economic growth.

That relationship has become less favorable as interest rates have moved higher. U.S. borrowing costs are no longer comfortably below the rate of economic growth, increasing the importance of the interest burden alongside the debt-to-GDP ratio.

Higher Interest Rates Increase Federal Borrowing Costs

Higher global interest rates have changed the financing environment for the U.S. government. When borrowing costs rise, newly issued debt can carry higher interest expenses, while refinancing existing obligations can also occur at higher rates.

Long-term Treasury yields have also remained elevated, with the Treasury recently expanding selected long-term bond buybacks while continuing to describe the operations as a debt-management and liquidity measure.

The relationship between interest rates and economic growth is particularly relevant because the government must generate enough economic activity and revenue to support its debt obligations. Current estimates of non-inflationary economic growth are generally around or slightly below 2%.

That rate is below the pace that would be required to reduce the relative debt burden through growth alone, even if the annual deficit were reduced to 3% of GDP. The calculation illustrates why borrowing costs remain an important part of the fiscal equation.

Higher rates also affect the broader financial system because Treasury yields serve as an important reference point for borrowing costs. As government borrowing becomes more expensive, the cost of financing can remain elevated for other borrowers competing for capital.

Treasury Secretary Scott Bessent has also indicated openness to active intervention intended to cap yields on long-term bonds. Policymakers are paying closer attention to the level of long-term borrowing costs.

AI Infrastructure Borrowing Adds Competition for Global Savings

Demand for credit from large artificial intelligence infrastructure companies has added another factor to the borrowing environment. U.S. AI hyperscalers have issued about $220 billion of debt this year.

Those companies are competing with the U.S. government for access to global savings, the pool of capital available to borrowers. Increased borrowing demand can affect the financing environment when governments and businesses seek capital at the same time.

The AI investment cycle also creates a separate economic question involving productivity and government finances. Artificial intelligence could increase productive capacity, although the timing of any such increase remains uncertain.

The fiscal effects of AI investment also depend on its impact on employment, income-tax receipts and corporate profits. Technology could reduce employment in some areas while increasing corporate profits and stock prices, creating uncertainty over its eventual tax effects.

For federal finances, the immediate issue remains the relationship between borrowing requirements, interest rates and economic growth. A higher debt balance increases the amount that must be financed, while higher borrowing costs increase the expense associated with that financing.

The current fiscal figures put those factors in measurable terms. The annual deficit is near 6% of GDP, publicly held debt is roughly equal to annual economic output and interest payments have reached around 3% of GDP.

Frequently Asked Questions

How much does the U.S. federal government pay in interest?

Interest payments on U.S. federal debt have risen to around 3% of GDP. The figure measures interest costs relative to the size of the U.S. economy.

How large is the U.S. federal deficit as a share of GDP?

The annual federal deficit is approaching 6% of GDP. The deficit represents the gap between federal spending and tax revenue.

How much U.S. debt is held by public creditors?

About $32 trillion of U.S. government debt is owed to public creditors, including individuals, foreign governments and the Federal Reserve. About $8 trillion is attributed to obligations the government owes to itself.

How do higher interest rates affect federal debt costs?

Higher interest rates increase the cost of issuing and refinancing government debt. The effect is reflected in the growing share of GDP devoted to federal interest payments.

How does corporate borrowing affect demand for global savings?

Large AI infrastructure borrowers have issued about $220 billion of debt this year, placing their financing needs alongside U.S. government borrowing in global credit markets.