As of January 2022 inflation is increasing at an annual rate of 7.5%. The immediate cause is blowout Congressional spending on the pandemic for two years in a row. Two $3 trillion annual deficits back-to-back was excessive stimulation, even in a pandemic.
The Federal Reserve is now poised to respond by raising interest rates. There are estimates that short term interest rates will need to rise to between 3% and 4%, from .25% today, to get inflation back to the previous 2% target range.
This will force interest rates up all across the economy, from business borrowing to home mortgage rates. It will create a huge recessionary force which will slow down economic growth. But, in addition, the Federal Reserve has now built up, through quantitative easing, bond holdings of close to $9 trillion. As these bonds mature, and are turned over, their interest rates will increase. This will dramatically raise interest expenses for the bond owners, making recessionary forces even larger.
Last, but not least, our rapidly growing national debt is financed largely by low-interest treasury bonds, as well as equivalent bonds from other countries like China and Japan. Of course, interest rates will also begin to rise on these debt bonds, which means that interest payments on our debt will begin to rise by hundreds of billions of dollars per year.
Here is my prognosis for inflation, interest rates and debt in the coming months. The Fed will presumably begin raising interest rates in March and continue doing so until inflation is “tamed.” If it takes more than just a few months to do this (likely), then a recession will almost surely be kicked off. The longer the recession lasts, and interest rates continue to rise, the more likely it becomes that a new financial crisis will develop.
Conclusion. Our close to $30 trillion, and rapidly increasing, national debt is not sustainable indefinitely. National leaders, including Congress and the President, must get serious about controlling it. It will require some economic pain for this to happen. Perhaps the current buildup in inflation will lead to a resolution of this sequence of events: inflation, interest rates, and reduction of the ratio of debt to GDP in the near future. If so, we will be much better off in the long run. Hold on to your hats and your wallets!