Revisiting the Interest Rate Effects of Federal Debt

Michael Plante, Alexander Richter and Sarah Zubairy

No 2513, Working Papers from Federal Reserve Bank of Dallas

Abstract: This paper revisits the relationship between federal debt and interest rates, which is a key input for assessments of fiscal sustainability. Estimating this relationship is challenging due to confounding effects from business cycle dynamics and changes in monetary policy. A common approach is to regress long-term forward interest rates on long-term projections of federal debt. We show that issues regarding nonstationarity have become far more pronounced over the last 20 years, significantly biasing the recent estimates based on this methodology. Estimating the model in first differences addresses these concerns. We find that a 1 percentage point increase in the debt-to-GDP ratio raises the 5-year-ahead, 5-year Treasury rate by about 3 basis points, which is statistically and economically significant and highly robust. Roughly three-quarters of the increase in interest rates reflects term premia rather than expected short-term real rates.

Keywords: fiscal sustainability; federal debt; federal deficit; Treasury rates; term premium (search for similar items in EconPapers)
JEL-codes: E43 E63 H63 (search for similar items in EconPapers)
Pages: 29
Date: 2025-04-23, Revised 2025-07-09
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Working Paper: Revisiting the Interest Rate Effects of Federal Debt (2025)
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Persistent link: https://EconPapers.repec.org/RePEc:fip:feddwp:99902

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DOI: 10.24149/wp2513r1

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