An Empirical Investigation into the Impact of U.S. Federal Government Budget Deficits on the Real Interest Rate Yield on Intermediate-term Treasury Debt Issues, 1972-2012

Cebula, Richard (2014): An Empirical Investigation into the Impact of U.S. Federal Government Budget Deficits on the Real Interest Rate Yield on Intermediate-term Treasury Debt Issues, 1972-2012.

Abstract

The existence of large federal budget deficits in the U.S., especially in recent years, raises the specter of concern regarding their potential effects on real interest rates (as well as economic growth and capital formation). This study provides current and new empirical evidence on the impact of the federal budget deficit on the real interest rate yields on intermediate-term debt issues of the U.S. Treasury, represented herein by the ex post real interest rate yields on three-year Treasury notes and seven-year Treasury notes, two interest rate measures that have received essentially no attention in the economics and finance literature in recent years. The study is couched within a loanable funds model that includes two ex post real interest rate yields, the monetary base as a percent of GDP, the change in per capita real GDP, net financial capital inflows as a percent of GDP, and the budget deficit as a percent of GDP. This study uses annual data for the study period 1972-2012, a time period that includes “quantitative easing” monetary policies by the Federal Reserve. Two-stage least squares estimations reveal that the federal budget deficit, expressed as a percent of GDP, has exercised a positive and statistically significant impact on the ex post real interest rate yields on both three-year and seven-year Treasury notes, even after allowing for quantitative easing and other factors. The study also considers the 1980-2012 time period and offers simple robustness testing.

• Item Type: MPRA Paper
• English Title: An Empirical Investigation into the Impact of U.S. Federal Government Budget Deficits on the Real Interest Rate Yield on Intermediate-term Debt Issues, 1972-2012
• Language: English
• Keywords: budget deficits; real three-year Treasury yield; real seven-year Treasury yield; quantitative easing
• Subjects: E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E42 - Monetary Systems ; Standards ; Regimes ; Government and the Monetary System ; Payment Systems; E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E43 - Interest Rates: Determination, Term Structure, and Effects; F - International Economics > F3 - International Finance > F31 - Foreign Exchange; F - International Economics > F3 - International Finance > F34 - International Lending and Debt Problems; H - Public Economics > H6 - National Budget, Deficit, and Debt > H62 - Deficit ; Surplus

References

Al-Saji, A. (1993) Government budget deficits, nominal and ex post real long-term interest rates in the U.K., 1960.1-1990.2. Atlantic Economic Journal, 21: 71-77.

Al-Saji, A. (1992) The impact of government budget deficits on ex post real long-term interest rates in the U.K. Economia Internazionale, 45: 158-163.

Barth, J.R. (1991) The great savings and loan debacle. Washington, D.C.: A.E.I. Press.

Barth, J.R., Iden, G., Russek, F.S. (1984) Do federal deficits really matter? Contemporary Policy Issues, 3: 79-95.

Barth, J.R., Iden, G., Russek, F.S. (1985) Federal borrowing and short-term interest rates: Comment. Southern Economic Journal, 52: 554-559.

Barth, J.R., Iden, G., Russek, F.S. (1986) Government debt, government spending, and private sector behavior: Comment. American Economic Review, 76: 1115-1120.

Barro, R.J. (1974) Are government bonds net worth? Journal of Political Economy, 82: 1095-1117.

Carlson, K.M., Spencer, R.W. (1975) Crowding out and its critics. Federal Reserve Bank of St. Louis Review, 57: 1-19.

Cebula, R.J. (1992) Central government budget deficits and ex post real long-term interest rates in Italy: an empirical analysis for 1955-1989. Metroeconomica, 43: 393-402.

Cebula, R.J. (1985) The crowding out effect of fiscal policy. Kyklos, 38: 435-438.

Cebula, R.J. (1997) An empirical note on the impact of the federal budget deficit on ex post real long-term interest rates, 1973-1995. Southern Economic Journal, 63: 1094-1099.

Cebula, R.J. (2013) An exploratory inquiry into the impact of budget deficits on the nominal interest rate yield on Moody’s Aaa-rated corporate bonds. Applied Economics Letters, 20: 1497-1500.

Cebula, R.J. (2005) Recent evidence on the impact of the primary deficit on nominal longer-term Treasury note interest rate yields. Global Business & Economics Review, 7: 47-58.

Cebula, R.J., Belton, W.J. (1993) Government budget deficits and interest rates in the United States: Evidence for closed and open economies put into perspective. Public Finance/Finances Publiques, 48: 188-209.

Cebula, R.J., Cuellar, P. (2010) Recent evidence on the impact of government budget deficits on the ex post real interest rate yield on Moody’s Baa-rated corporate bonds. Journal of Economics and Finance, 34: 301-307.

Day, A.E. (1922) Federal government budget deficits and interest rates: Comment. Southern Economic Journal, 58: 816-820.

Gissey, W. (1999) Net Treasury borrowing and interest rate changes. Journal of Economics and Finance, 23: 211-219.

Hoelscher, G. (1986) New evidence on deficits and interest rates. Journal of Money, Credit, and Banking, 18: 1-17.

Holloway, T.M. (1988) The relationship between federal deficit/debt and interest rates. The American Economist, 32: 29-38.

Koch, J.V. (1994) Federal budget deficits, interest rates, and international capital flows: A further note, Quarterly Review of Economics and Finance, 32: 117-120.

Newey W.K., West K.D. (1987) A simple positive semi-definite, heteroskedasticity and autocorrelation consistent covariance matrix. Econometrica, 55: pp. 703-708.

Ostrosky, A.L. (1990) Federal budget deficits and interest rates: Comment. Southern Economic Journal, 56: 802-803.

Tanzi, V. (1985) Fiscal deficits and interest rates in the United States. I.M.F. Staff Papers, 33: 551-576.