“U.S. 10-Year Yield at 4.75% Is ‘Fair Value,’” but an ‘Interest Bomb’ for a Government Saddled With $40 Trillion in Debt

Persistent Inflation and Fiscal Deficits Push U.S. 10-Year Treasury Yield Toward 4.7%
Fair-Value Estimates of 4.75% Gain Traction in Bond Market as Treasury Expands Buybacks
Modest Purchase Volumes and Weakening Treasury Demand Limit Long-Term Yield Relief

The yield on the 10-year U.S. Treasury note has moved close to 4.7% despite the Federal Reserve’s policy-rate pause. Although analysts argue that 4.75% represents fair value given the pace of economic growth, inflation and the fiscal deficit, such a funding rate would impose a heavy burden on the U.S. government, whose federal debt is approaching $40 trillion. Yields briefly stabilized after the U.S. Treasury more than doubled the per-operation buyback cap for longer-dated securities, but the volume of purchases remains negligible relative to the overall market, while the scope for further use of the Treasury General Account (TGA) is limited. With fiscal deficits driving continued issuance and the shares purchased by the Federal Reserve and foreign investors declining, the prevailing view is that the effects of the buybacks will prove short-lived.

U.S. Long-Term Yields Diverge From the Policy Rate

According to the Financial Times on August 27, the yield on the 10-year U.S. Treasury note stood at 4.68% that day, up 3 basis points from the previous session’s New York close. With the Federal Reserve maintaining the target range for the federal funds rate at 3.50%–3.75%, the long-term yield was 0.93 percentage points above the top of the policy-rate range. The CME FedWatch Tool also showed that the probability of a September hold exceeded that of a rate increase. This divergence appears to reflect a weakening link between monetary policy and long-term yields as markets price persistent inflation and the burden of massive Treasury issuance into interest rates. Although investors do not regard further near-term tightening as the baseline scenario, they are demanding substantially higher returns in exchange for locking up capital for 10 years.

Against this backdrop, the view that 4.75% should be regarded as fair value reflecting the U.S. economy’s growth, inflation and fiscal conditions is gaining traction in the bond market. The case for 4.75% begins with nominal growth. According to the U.S. Commerce Department’s Bureau of Economic Analysis (BEA), the core personal consumption expenditures (PCE) price index rose 3.3% year over year in July, while real gross domestic product (GDP) grew at an annualized rate of 1.5% in the second quarter. ING presented the sum of the two figures, 4.8%, as a rough benchmark for assessing the relative value of longer-dated securities. Its rationale is that while short-term securities are highly sensitive to the Federal Reserve’s policy trajectory, the 10-year yield reflects both the economy’s medium- to long-term growth rate and its inflation trend, and has historically maintained a certain relationship with nominal growth. ING concluded that once a fiscal deficit equivalent to approximately 6% of GDP is incorporated, a 10-year yield of around 5% would also be consistent with current economic conditions.

The composition of the yield provides a separate rationale for a rate in the upper-4.7% range. The nominal 10-year yield of 4.68% on August 27 comprised a real yield of 2.35%, derived from Treasury Inflation-Protected Securities, and a 10-year breakeven inflation rate of 2.33%. In particular, the 10-year real yield climbed 0.4 percentage points, from 1.94% in early January to 2.34% in late August. Long-term inflation expectations remained near the Federal Reserve’s target, but elevated real yields and the term premium pushed the overall yield higher. Asset manager Franklin Templeton estimated that the Federal Reserve Bank of New York’s measure of the 10-year term premium had reached 70 basis points in late July. Meanwhile, federal debt of around $40 trillion, heavy Treasury issuance and corporate bond offerings by technology companies investing in artificial intelligence infrastructure have intensified competition for long-term capital.

Federal Interest Costs Overtake U.S. Defense Budget

The problem is that even if 4.75% is accepted as fair value in the bond market, it could represent an onerous funding cost for the U.S. government. As Treasuries mature, securities issued at the low interest rates of the past are replaced with higher-yielding debt, gradually raising the government’s average interest rate. The Congressional Budget Office (CBO) projects that the federal government’s net interest outlays will reach $1.039 trillion in fiscal year 2026. That is approximately 14% of total spending of $7.449 trillion and $154 billion more than discretionary defense spending of $885 billion. As fiscal resources are directed first toward interest payments, the government will have less room to allocate funding to policy areas such as infrastructure, education and defense.

Rising interest costs create a self-reinforcing cycle that converts fiscal deficits back into additional Treasury supply. The CBO projects a fiscal deficit of $1.853 trillion this year, with net interest outlays accounting for 56% of that amount. If the government increases Treasury issuance to cover the funding shortfall, it must offer investors higher yields, and the resulting increase in funding costs once again raises interest expenses in the following fiscal year. The CBO forecasts that federal debt held by the public will rise from 101% of GDP this year to 120% in 2036, while annual net interest outlays will swell to $2.144 trillion over the same period. As the impact of high interest rates accumulates year after year, the rigidity of fiscal management will intensify further.

Table 1. U.S. Federal Fiscal and Debt Projections

30-Year Yield Above 5% Raises Risk of ‘Triple Decline’ if Foreign Capital Retreats

These concerns are reflected in market pricing that demands higher Treasury yields as maturities lengthen. The yield on the 30-year U.S. Treasury bond stood at 5.17% on August 25, having surged to 5.311% on August 17. That marked its highest level in 19 years, since 2007. Although the immediate risk of a U.S. default is considered low because the country controls issuance of the dollar and commands an enormous tax base, investors’ attention has shifted from the government’s ability to repay its debt to the level of compensation required to hold U.S. Treasuries over an extended period. Unless measures to reduce the fiscal deficit are presented, longer-dated Treasuries are likely to command a higher fiscal-risk premium.

This vulnerability is compounded by the United States’ dependence on foreign capital. Foreign investors are estimated to hold $25 trillion in U.S. equities and $9 trillion in Treasuries, for a combined total of $34 trillion. According to the BEA, U.S. external financial liabilities totaled $64.64 trillion at the end of the first quarter, while external financial assets stood at $43.37 trillion, leaving a net international investment position deficit of $21.27 trillion. If deteriorating fiscal credibility prompts foreign investors to reduce their exposure to U.S. assets, the risk of a “triple decline”—falling Treasury prices, lower equity prices and a weaker dollar as capital flows back overseas—will increase.

30-Year Yield Plunges After Buyback Cap Is Doubled

As the surge in long-term yields showed signs of spilling over into broader financial-market instability, the U.S. Treasury moved to expand buybacks of longer-dated securities. A buyback is a debt-management instrument through which the Treasury purchases government securities in the market before maturity, reducing the volume available for trading. On August 19, the Treasury raised the per-operation purchase cap for securities with remaining maturities of 10–20 years and 20–30 years from $2 billion to at least $4 billion, with the higher limits to remain in effect from September 9 through November 4. The impact was immediate. The 30-year yield, which had surged to 5.34% immediately before the announcement, fell as low as 5.187% intraday, while the 10-year yield dropped about 6 basis points to 4.66%. The bond market responded immediately to the Treasury’s signal that it would not stand by while longer-dated securities came under heavy selling pressure.

ING, however, argued that the decline in yields at the time stemmed more from the Treasury’s intervention signal than from the purchase volume itself. Despite the fact that $4 billion per operation is small relative to longer-dated issuance and outstanding market debt, the 10- and 30-year yields fell by 5–10 basis points immediately after the announcement. ING said selling sentiment eased because the Treasury emerged as a buyer of longer-dated securities after revising a quarterly schedule it had released only two weeks earlier. The market, it argued, priced in not only the actual purchase volume but also the possibility of further measures.

Additional $2 Billion per Operation Still Insufficient to Restrain Long-Term Yields

The limited scope of the buybacks becomes even clearer when the actual figures are considered. According to Reuters, the additional $2 billion per operation is negligible relative to the $32.2 trillion U.S. Treasury market and the $5.5 trillion of outstanding 20- and 30-year securities. ING likewise characterized the buybacks as a “zero-sum transaction,” noting that the Treasury would have to raise funding again during the subsequent refinancing process if it sought to purchase a substantial volume of debt. Even if the Treasury retires older securities, the supply of new Treasuries generated by the fiscal deficit remains unchanged. The only component that buybacks can reduce is the liquidity premium attached to thinly traded securities.

This also explains why the policy’s effects did not last. Investment bank Barclays noted that much of the decline in yields was reversed the day after the buyback announcement, concluding that there remained a considerable distance between adjusting the supply of longer-dated securities and reversing the trend of the yield curve. Barclays identified the deteriorating fiscal outlook and a Treasury investor base that has become increasingly price-sensitive as the key variables. JPMorgan also warned that if the Treasury attempted to control interest rates directly while large fiscal deficits persisted, policy credibility could be damaged and the term premium could instead rise. In other words, measures introduced to suppress yields could confirm the market’s fiscal concerns and intensify pressure in the opposite direction.

Diminishing Scope to Use the TGA as Treasury Demand Weakens

The possibility of using the roughly $1 trillion TGA balance to finance buybacks and expand purchasing capacity has also been discussed. However, with U.S. government debt approaching $40 trillion and interest costs rising, the Treasury must maintain a higher level of liquidity. It is structurally difficult to keep the TGA at the low levels seen before the COVID-19 pandemic. Unless the TGA balance is continuously reduced, the effects of TGA-funded buybacks could therefore diminish over time.

The more fundamental problem is the fiscal position. Calming volatility in longer-dated yields requires a fiscal-consolidation plan, but conditions are far from favorable. Tax cuts have reduced fiscal revenue, while interest costs and mandatory spending are rising. The Donald Trump administration sought to offset the revenue shortfall with tariff receipts, but court rulings that reciprocal tariffs were unlawful could undermine that plan. The possibility that pressure to expand welfare spending will grow depending on the political landscape after the November midterm elections is also aggravating concerns about the fiscal deficit.

Another burden is that the pool of buyers willing to absorb Treasury issuance is steadily shrinking. The Federal Reserve’s holdings of U.S. Treasuries, which approached $6 trillion during the quantitative-easing cycle after the COVID-19 pandemic, have fallen to $4.5 trillion. Its share of outstanding U.S. Treasuries has also declined from 26.4% to 13.5%. Although the value of foreign investors’ holdings has increased, their share of the overall U.S. Treasury market fell from 47.3% in 2015 to 32.9% at the end of 2025. Demand is growing more slowly than Treasury issuance, leaving U.S. households and financial institutions to absorb a larger volume of government debt. The painkiller has been administered, but the underlying illness remains.