In early 2014 the United States government had more than 17 trillion in debt (ap
ID: 2740549 • Letter: I
Question
In early 2014 the United States government had more than 17 trillion in debt (approximately $55000 for every US citizen) outstanding in the form of treasury bills, notes and bonds. From time-to-time the Treasury changes the mix of securities that it issues to finance government debt, issuing more bills than bonds or vice versa.
With short-term interest rates near 0% and early 2014, suppose the Treasury decided to replace maturing notes and bonds by issuing new Treasury bills, thus greatly shortening the average maturity of U.S. debt outstanding. Discuss the pros and cons of this strategy.
Explanation / Answer
The U.S. Treasury would face most of the same considerations as those faced by a firm that is considering revision of its average debt maturity. Short-term rates are usually lower, lowering total financing costs. But, if the U.S. Treasury relies on short-term rates and short-term rates rise, the cost of financing the federal debt could ultimately be more. Also the U.S. Treasury may be unable to find buyers of new Treasury bills when old Treasury bills mature. According to market segmentation concept, there is a limited quantum of demand for short-term securities. Excessive short-term demand could push up the cost of seasonal business loans higher, hindering business and tax revenues. An additional concern that the U.S. Treasury will face is whether the financing adjustment would diminish the high regard with which Treasury bills are held