Term premium climbs 1.1 points as deficits test Fed independence

Long-term Treasury yields sit near the highs of Donald Trump's second term as investors demand more compensation for US debt against a 5.8 percent deficit and doubts over Federal Reserve independence.

"Global investors are looking at a potent mix of higher inflation, higher interest rates and an unsustainable fiscal path," Joe Brusuelas, chief economist at RSM US, told CNN.

The 10-year yield traded at 4.77 percent and the 30-year at 5.23 percent this week, with 30-year Treasuries recently selling at their lowest price in nearly two decades. The term premium — the extra compensation investors demand to hold long-term debt — climbed 1.1 percentage points during the Fed's second round of quantitative tightening from 2022 to 2025, according to a Council on Foreign Relations analysis by senior fellow Benn Steil.

The build-up matters because yields set borrowing costs across the economy. A sustained move above 5 percent on the 10-year would push down equity valuations and raise the cost of mortgages, auto loans and corporate credit, while a deficit-to-GDP ratio of 5.8 percent this year leaves little room for fiscal relief.

The supply-demand squeeze

The fundamental driver is that Treasury issuance needed to cover the government's debt is outpacing the appetite of price-insensitive buyers such as foreign central banks, forcing more debt onto households and investment funds that react to fiscal indiscipline by demanding higher yields. During the Fed's first balance-sheet runoff from 2017 to 2019, the price-sensitive share of Treasury holdings rose 8 percentage points and the term premium barely moved. In the second round, which pushed about $1.6 trillion of Treasuries into the market, that share jumped 17 points and the term premium rose 1.1 percentage points, the CFR analysis shows.

The difference reflects scale and debt trajectory. US debt grew 8 percent to $22.7 trillion during the first runoff's 22 months, versus 21 percent to $38.5 trillion by the end of the second. Heavier issuance and a larger runoff pushed more Treasuries into the market at once, requiring higher compensation to attract new buyers.

Fed independence and intervention risk

Compounding the fiscal arithmetic are concerns that the White House may pressure the Fed or intervene directly in the Treasury market. New Fed Chair Kevin Warsh's agenda of further quantitative tightening would push even more debt onto price-sensitive buyers, the CFR analysis warns, while recent Treasury interventions by the administration have failed to contain yields. The last time a government tested the bond market this way was in Britain in 2022, when Prime Minister Liz Truss was forced out after 44 days following a revolt against unfunded spending plans.

The global scope of the move adds to the risk. Yields are also rising on government bonds in France, Germany, Italy, the UK, Japan, Canada and Australia, with the French 10-year at its highest since 2008, the UK 30-year at levels not seen since 1998 and Japan's 10-year at 3 percent, a 30-year high. Investors are selling bonds across developed markets as governments ramp up borrowing to fund war and defense spending, and as sticky inflation keeps central banks from easing.

For US markets, the question is whether the 10-year can hold below 5 percent. If it breaks and sustains above that level, contagion risk to equities — particularly long-duration technology and growth stocks — intensifies, according to analysts. With annual deficits near $2 trillion and the Fed's balance-sheet plans still ahead, the term premium that investors demand for holding long-term US debt looks set to stay elevated.

This article is for informational purposes only and does not constitute investment advice.