Should investors be concerned about the U.S. deficit?

There's no doubt that the upward trajectory of debt/GDP is a worrying byproduct of current U.S. fiscal policy. The Congressional Budget Office (CBO) forecasts that the U.S. debt/GDP ratio will climb from 99% in 2024 to 120% by 2034. There are underlying risks inherent in such a high ratio, and here are their likely implications on the economy.

Increases in borrowing costs: Although demand for Treasuries is robust and confidence in Treasuries remains steady, a future increase in supply could present concerns for lenders. As the government debt levels rise, the need to issue more Treasury securities does too. An increase in supply could lead to higher yields and further add to the government's interest expenses—as well as increasing the cost of borrowing in the private sector.

Crowding-out effect: With sustained government deficits, the CBO projects that governmental functions like education, defense, etc. may have to be financed through borrowing or even by cutting other spending programs. The crowding-out effect also impacts private sector spending. Financing government deficits in the years to come could lead to higher taxes or higher interest rates, and ultimately result in consumers having less money to spend. Therefore competition for the economy's available savings could "crowd out" consumer expenditures and business capital spending.

Although deficit projections are worrisome, we don’t think investors need to reposition as these types of risks take many years to come to fruition. The U.S. dollar remains the world's reserve currency and can likely sustain bad borrowing habits compared to other countries currently facing similar challenges. 

Rising costs need to be considered in relationship to the run rate of domestic growth. While the U.S. is clearly spending more, it is also delivering on economic growth at a time when the rest of the world is struggling to keep up. Overall, we continue to have a positive outlook on the U.S. growth, as Trump's deregulation plans and advancements in AI are likely to cause productivity gains. High debt levels may appear worrisome (and definitely can be), but so far, the U.S.’s structural advantages, currency, and productivity growth work to prevent any concerning tipping points. 

Julia Rozenfeld contributed to this article.