US debt climbs to a new record

The United States national debt ceiling was reached in the first week of 2025 as the outstanding debt in the world’s largest economy reached a new record of US$36.1 trillion. The debt ceiling in the US is a limit set by the US Congress on the amount of money that the government is allowed to borrow.

Those who typically follow the US economy are well accustomed to political issues surrounding the debt ceiling, with the previous limit suspended recently in 2023 when the US debt had reached its limit at the time of $31.4 trillion and the issue was ultimately resolved after months of negotiations.

The debt-ceiling limit is a cause of concern for the US Treasury Department which must conduct various extraordinary measures to ensure that the government can continue to function. Nonetheless, the Treasury Department is estimated to hold higher cash balances when compared to the debt-limit debate of 2023, thus its operations are expected to last for several months, even with the debt-limit restriction in place.

The increase in government debt is typically brought about by government deficits, which is the result of costs being higher than income streams. In the fiscal year ended September 30, the US government recorded a deficit of $1.83 trillion, the third-largest in its history and only lower than the record deficits incurred during 2020 and 2021 due to the pandemic.

Expenditure in the fiscal year 2024 amounted to $6.75 trillion, with the highest costs being allocated to social security (20%), Medicare (16%) and national defence (14%).

A widely used measure of a country’s indebtedness is by calculating total debt as a per cent of its gross domestic product (GDP). On this basis, the debt-to-GDP of the US currently stands at around 120% and was only higher during the pandemic in 2020. The US debt-to-GDP ratio has exceeded the 100% level since 2012. For comparative purposes, the debt-to-GDP in the euro area stands at around 88%, with only Greece (164%) and Italy (137%) exceeding the 120% level.

An important consideration, however, is that while 80% of the US government debt is held by the public (including foreign governments and institutions), the other 20% is intragovernmental, thus held by government departments making surplus revenue. As such, when excluding intragovernmental debt, the US debt-to GDP ratio is closer to 100%.

Governments cover their debt obligations with their income streams, typically taxes, and thus the sustainability of government revenue is also an important consideration for creditworthiness. Therefore, governments such as the US with effective tax systems, are considered as less likely to default, while countries with less effective systems and wider tax evasion would carry a higher credit risk even if they hold a lower debt-to-GDP ratio.

The government revenue in the US, which amounted to $4.92 trillion in the latest fiscal year, was generated through individual income taxes (49%), social security and Medicare taxes (35%), and corporate taxes (11%).

The political stability is also an important consideration in sovereign credit ratings, with the assumption that in a functioning political system, a default is considered as a last resort. Following the latest US election, given that the Republican Party now holds the majority in both Senate and the House of Representatives, the new administration should find it easier to reset the debt limit and avoid a default.

While all international credit rating agencies classify US sovereign debt as investment grade with very low probability of default, in August 2023, Fitch Ratings downgraded the US credit rating by one notch citing a “steady deterioration in standards of governance over the last 20 years, including on fiscal and debt matters”.

Meanwhile, in August 2011, S&P Global Ratings had also lowered its rating by one notch as it noted that “the effectiveness, stability and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges”.

On the other hand, Moody’s still assigns the US sovereign debt with its highest ‘AAA’ rating but lowered its outlook to negative in November 2023 due to declining debt affordability.

Indeed, the record debt levels coupled with the higher interest rates of the past years led to a sharper increase in the interest payment costs for the US government that should remain closely monitored and are likely to feature in various financial discussions in the years ahead.

Annual interest payments on US debt exceeded the $1 trillion level for the first time in 2024, while the effective interest rate on US debt also exceeded the 3% level for the first time in more than a decade. Effectively, the annual interest payments for US debt doubled in just four years from $508 billion in 2020 to $1.12 trillion in 2024.

Looking ahead, the overall economic prospects in the US remain favourable with strong consumer demand and a relatively low unemployment rate. On the other hand, the elevated borrowing costs, together with geopolitical issues and potential disruptions in global trade, could pose risks to economic stability.

With the expectations of tax cuts by the new Trump administration, it will be interesting to monitor how these will impact the revenue streams for the US government and whether the overall increase in economic activity translates into more manageable debt-servicing obligations.

Jonathan Falzon is a research analyst at Rizzo Farrugia & Co. (Stockbrokers) Ltd.

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