Interest rates near zero are a big gift for Biden or Trump

Business

Washington will need to spend more to combat the pandemic, no matter who wins next week’s presidential election. But there’s good news for either President Donald Trump or Joe Biden: Interest rates are likely to remain incredibly low for some time.

The yield on the 10-year US Treasury bond is under 1%. That’s good for the government, as it has has to pay interest on the massive pile of US federal debt, which was nearly $27 trillion as of the end of September. Washington benefits from lower rates, just as consumers do when paying their mortgages and credit card bills.

It’s unlikely yields will climb dramatically higher anytime soon given that the Federal Reserve is expected to keep its benchmark short-term interest rate near zero for several more years, especially if Fed chair Jerome Powell is appointed to a second term.

So lower interest rates should make it easier and less costly for either Biden or Trump to get another major stimulus package through Congress.

“Regardless of what happens in the election we will probably get more fiscal thrust in 2021,” said Tom Graff, head of fixed income at Brown Advisory.

Time for more stimulus
Graff thinks the Fed will be comfortable holding steady with interest rates near zero even if inflation and longer-term bond yields start to creep a bit higher. That’s because stabilizing the job market and broader economy is more important. The unemployment rate is still a historically high 7.9%.

“The US is unlikely to get the unemployment rate back down to the [pre-pandemic] 4% levels by this time next year. So the Fed will be more inclined to ignore a spike in inflation,” Graff said.

If the current polls turn out to be correct and a Biden win is coupled with a blue wave, giving Democrats control of the Senate, the amount of stimulus could be even higher.

That, in theory, should finally lead to higher interest rates.

Rates likely to remain low for several years
But experts at the BlackRock Investment Institute still think the Fed will step in to keep rates from going too much higher.

“Significant fiscal stimulus under a united Democratic government — an election scenario that markets are increasingly pricing in — could put upward pressure on Treasury yields,” the BlackRock analysts wrote in a report Monday.

“Yet the rise in yields would likely be limited as the Fed would act to prevent a sharp tightening in financial conditions,” the BlackRock team added.

Continued weakness in the economy is also likely to keep a lid on long-term rates.

“Fears of fiscal stimulus driving meaningfully higher rates are misplaced, as we see pandemic-related demand destruction presenting a continued headwind to both growth and inflation,” said Katie Nixon, chief investment officer with Northern Trust Wealth Management, in a report.

Yes, the government could eventually have a problem paying interest on an increased debt load. But that’s probably not a 2021 or even 2022 issue.

“Both parties need to deal with the persistent issue of the debt and deficit, but now is not the time,” said Jim Baird, chief investment officer at Plante Moran Financial Advisors. “It will take time to get people back to work. Some additional form of fiscal support will be needed.”

In fact, the Congressional Budget Office recently estimated that the average interest rate on federal debt will decrease from 2% this year to 1.1% in 2025. So it’s probably the most opportune time within the next few years to take on more debt.

Still, some worry about the eventual day of reckoning in the bond market.

“It is important to understand how a slower recovery could impact financial markets,” said David Kelly, chief global strategist with JPMorgan Funds, in a report Monday.

A big increase in spending on infrastructure, along with coronavirus-related stimulus, would lead to even bigger debt loads going forward. That will lead to even higher interest payments — no matter how low rates are.

“It also means more government borrowing and continued Fed purchases of Treasuries through most of 2021 if not beyond,” Kelly added, noting that “when the economy finally does recover from the pandemic later in 2021 and 2022, our public finances will have deteriorated further.”

“This could put greater upward pressure on long-term interest rates,” he concluded.