Latest / The National Debt Podcast with Fexingo: Treasury, Borrowing, and Long-Term Fiscal Outlook / Why The September Jobs Report Changes Everything
Transcript
- Lucas: If walking through the economy with us has made something click, a handful of listeners chip in monthly through buy me a coffee dot com slash fexingo, and that is literally what funds making this many of these. Luna: Right, and it keeps the ads out so we can actually dig into the numbers without selling you anything. Lucas: Exactly. So let us look at the September labor market data, which just dropped Friday, and see how it changes the fiscal picture for the rest of the year. The headline number was just twenty-nine thousand new jobs, and the unemployment rate ticked up to four point two percent. That is a significant deceleration from the summer pace, and it suggests the economy is losing momentum faster than most analysts predicted. Luna: Twenty-nine thousand feels almost like zero growth when you compare it to the three-month averages from earlier in the year. Does this weakness immediately translate to lower tax receipts for the government? Lucas: It does, but not in a direct dollar for dollar way. The connection is more about corporate profits and capital gains. When hiring slows down, wage growth moderates, which helps keep inflation down, but it also signals that businesses are pulling back on expansion. Right now, the federal deficit for the full fiscal year ending in September was around one point seven seven trillion dollars. If economic activity slows further, that number could easily creep higher because income tax revenues are tied directly to employment levels. Luna: So we are looking at a scenario where the Treasury has to borrow more money just to service existing obligations while revenue growth stalls. Lucas: Precisely. And look at the debt to gdp ratio, which hit one hundred and twenty-two point six percent as of January first and has been inching upward. The total federal debt is now sitting at roughly thirty-nine point five trillion dollars. When you combine that massive stockpile of debt with a slowing labor market, you create a feedback loop. The government needs to issue more bonds to cover the gap, but if investors sense that the underlying economy is fragile, they demand higher yields to hold those bonds. Luna: That is why the ten-year Treasury yield is hovering near five point two percent despite the Fed cutting rates. The market is pricing in that fiscal risk. Lucas: It is exactly that. The ten-year yield dropped slightly from five point two nine percent last week to five point two four percent today, but it remains structurally high. Compare that to the short end of the curve, where the two-year note is at four point seven eight percent. The spread is still positive, meaning the yield curve is not inverted, but the absolute levels tell a different story. Investors are willing to lock in four point seven eight percent for two years, but they want over five percent for a decade because they are worried about long-term fiscal sustainability. Luna: And that premium reflects the fear that future deficits will be larger, not smaller. Are we seeing any political pushback against raising taxes to close that gap? Lucas: Not really. The political environment is focused on maintaining current spending levels, which means the burden of adjustment falls entirely on borrowing. This is what economists call fiscal dominance, where the scale of government debt influences monetary policy decisions. Even though the Federal Reserve is trying to steer inflation toward its target, the sheer volume of Treasury issuance limits their ability to keep rates low without expanding their own balance sheet significantly. Luna: So the Fed is essentially stuck between a rock and a hard place. Raise rates to fight potential inflation spikes from fiscal spending, or cut them to help a weakening labor market. Lucas: That is the exact dilemma. The core inflation gauge showed core inflation at three point zero percent in August, which is much lighter than expected, but that cooling is partly due to the very labor slowdown we are discussing. If the job market continues to soften, inflation will likely drop further, giving the Fed room to ease policy. But every basis point they cut adds to the interest burden on the national debt, which compounds quickly given the current yield environment. Luna: It is a delicate balancing act. One wrong move and you either spark inflation again or trigger a recession. How do private sector indicators align with the official government data? Lucas: The private sector ADP report showed ninety thousand jobs rising in September, which was better than some expectations, but it contradicts the weak nonfarm payrolls number. This divergence is confusing markets. It suggests that small businesses might still be hiring, while larger corporations are freezing headcount. For the federal budget, large corporations contribute disproportionately to corporate tax revenue, so if big firms pull back, that revenue stream dries up faster than payroll tax collections. Luna: Which means the deficit could widen even if overall employment looks stable. Is there any sector showing resilience that might offset this? Lucas: Government employment itself has been surprisingly steady, but that is part of the problem. We are relying on public sector jobs to absorb shocks while the private sector cools. Men are losing ground in the labor market specifically, which points to structural shifts in manufacturing and construction. Those industries generate substantial local and state tax revenue, so their weakness creates a ripple effect across all levels of government finance. Luna: It feels like the underlying health of the economy is thinner than the headline GDP figures suggest. What does this mean for the average investor watching bond yields? Lucas: For investors, it means locking in longer durations is risky but potentially rewarding if the Fed cuts aggressively. However, the credit risk is real. If the Treasury has to sell more thirty-year bonds to fund the deficit, the supply pressure alone will keep yields elevated. The thirty-year yield is currently at five point six one percent, down marginally from five point six four percent, but it remains a high hurdle for borrowers. You are paying a significant premium for safety in an era of fiscal uncertainty. Luna: And that premium is eroding the purchasing power of fixed-income portfolios. Are pensions and institutional investors adjusting their allocations? Lucas: They are definitely shifting away from pure duration bets and looking at inflation-protected securities, or TIPS. With inflation running at three percent and nominal yields above five percent, the real yield is positive, which is good for savers but bad for governments. Every point of real yield increases the cost of servicing the debt in constant dollars. It is a mathematical trap that becomes harder to escape the longer the labor market stays soft. Luna: So the solution isn't just about growing the economy faster; it is about managing the cost of the debt while growth slows. Can the Treasury manage that effectively? Lucas: They can try by extending maturities, but we have already seen that strategy face resistance. The quiet war over federal debt maturity means investors are reluctant to lock in fifty-year rates at current levels. If the Treasury cannot roll over short-term debt cheaply, the interest expense line item on the budget explodes. We are already seeing interest payments consume a larger share of federal revenue, leaving less for discretionary spending or investment. Luna: It sounds like we are entering a period where fiscal discipline becomes a political necessity rather than just an economic ideal. Do you think the markets will force their hand? Lucas: The markets are already forcing their hand by keeping the yield curve steep. A steep curve means short-term borrowing is cheaper than long-term borrowing, which incentivizes the Treasury to keep issuing paper that matures in two or three years. But that just pushes the refinancing risk further into the future. It is a classic Ponzi-like structure, albeit on a sovereign scale, where you rely on future confidence to pay off present obligations. Luna: And if that confidence wavers, the correction happens all at once. Are we seeing any signs of foreign buyers pulling back on US Treasuries? Lucas: Foreign holdings are stabilizing, but they are not increasing rapidly. Domestic institutions and the Federal Reserve itself are absorbing more of the supply. The Fed’s balance sheet is still shrinking, which means they are letting maturing bonds run off rather than reinvesting. This quantitative tightening, combined with high deficit spending, creates a perfect storm for liquidity. There is less cash chasing more debt, which naturally pushes prices down and yields up. Luna: That is a stark contrast to the easy money era of the past decade. It feels like we are permanently transitioning to a higher cost of capital environment. Lucas: We are. And the September jobs report is just the latest confirmation that the old playbook doesn’t work anymore. You cannot stimulate demand indefinitely without triggering inflation, and you cannot suppress inflation without crushing growth. The government is stuck in the middle, bleeding money on interest payments while trying to maintain services. It is a slow burn that could accelerate if the labor market deteriorates further. Luna: So the question for next quarter is whether the Fed can cut enough to stabilize the job market without spooking the bond vigilantes who are already demanding higher rates for long-dated debt. Lucas: Exactly. If they cut too fast, yields spike because investors fear fiscal dominance. If they wait too long, the unemployment rate climbs past four point five percent, and we enter a recession that widens the deficit anyway. It is a lose-lose scenario unless productivity surges to offset the demographic headwinds. Until then, we are just managing the decline of the debt to gdp ratio's trajectory. Luna: A difficult path forward, but one that requires clear-eyed analysis rather than optimistic assumptions. Thanks for walking us through the data, Lucas. Lucas: My pleasure, Luna. Let us see if the October data confirms this slowdown or if we get a surprise bounce back.