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In: Economics

from the end of 2009 to the end of 2019, the size of the united states...

from the end of 2009 to the end of 2019, the size of the united states national debt held by the public grew from $6.8 trillion to $17.2 trillion. during the same period, the 10 year us treasury bond yield to maturity fell from 3.59% in december 2009 to 1.86% in december of 2019. explain how such an increase in the supply of government bonds can lead to a fall in the interest rate. second, consider that the 10 year bond rate has fallen further in 2020 to 0.68 percent on october 1, despite a further increase in the national debt ($20.5 trillion as of june 30, 2020) due to the decline in the economy and increase in federal government spending. why has this continued in 2020 during an economic crisis?

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Expert Solution

National debt held by the public has increased while the US treasury bond yield has declined because government bond yields are considered a safe asset by investors. In 2009 US GDP was USD 14 trillion. While in 2019 the GDP was USD 21 trillion. Public debt has increased by 142% [ ( 17 / 7 ) - 1 ] *100. Its debt to GDP ratio has increased from 50% ( 7 /14 ) * 100 to 80% (17 / 21 ) *100 in 2019. Leaving room to borrow more as most developed countries such as Japan have a 100%+ debt to GDP ratio.

Thus even though public debt has increased, US borrows more as the bonds are considered safe assets by investors all over the globe because of which bond yields are low especially when the economy is in recession. When interest rates reduce, the bond yield also falls. When overall economic activity is declining, bond yields fall and people invest more in bonds as they are safer than other assets as the return is assured. And as there is higher demand, the bond prices increase and the yields reduce.

While the bond yield has fallen further in 2020 to 0.7%, it is because the economic activity has declined and consumer confidence has plummeted following the economic crisis. Increase in demand and as US is considered a safe haven in terms of investing where one is assured a return when one invests in U.S government bonds. It is because of this that bond yields have declined. And even though national debt has increased, U.S is still considered safe as compared to other countries as the nominal GDP is the highest and as dollar is the global currency.

When bond yield rises that is when it is bad for the economy as the government has to service its debt obligation at a higher yield, than is when an increase in public debt can prove harmful.  


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