U.S. Deficit Nears $2 Trillion, Interest Bill Surpasses $1 Trillion for the First Time, Long-Term Treasury Bonds Priced for Debt Spiral

The U.S. fiscal deficit is expanding at a pace close to $2 trillion, with net interest payments surpassing $1 trillion for the first time and the average interest rate on marketable Treasury securities rising to 3.48%. This means that even if no new deficits are added, the rolling refinancing of existing debt continues to push up the interest burden, prompting the market to price in a self-reinforcing debt spiral.

Data released Friday by the U.S. Treasury shows that the federal budget deficit for the first eleven months of fiscal year 2026 reached $1.97 trillion, one of the highest levels on record, with a single-month deficit of $166.8 billion in August.

In the eleven months through August, cumulative net interest payments totaled $1 trillion, surpassing all other major spending categories except social security and the Department of Health and Human Services.

Driven by inflation concerns and expectations that the Federal Reserve will raise rates to curb inflation, U.S. Treasury yields rose to multi-year highs this week: the 2-year yield touched 4.66% intraday on Friday, and the 10-year yield reached 4.98%. The average interest rate on marketable Treasury securities rose to 3.48%, more than 2 percentage points higher than five years ago.

Due to a large volume of Treasury bonds issued during periods of low interest rates maturing and requiring refinancing at higher costs, the Treasury’s average financing cost will continue to trend upward. For a government with more than $40 trillion in outstanding debt, the expansion of interest payments is squeezing fiscal space and is undermining the “risk-free anchor” status of long-term U.S. debt.

According to U.S. Treasury data, the federal budget deficit for the first eleven months of fiscal year 2026 (as of August) was $1.97 trillion, a decline of about 5% from the same period in 2025 after adjusting for calendar differences.

The single-month deficit in August was $166.8 billion, significantly lower than July’s $432 billion, though the latter was largely impacted by calendar factors such as tariff refunds and is not comparable.

In terms of income and expenditure structure, total federal expenditures for the first eleven months amounted to $6.81 trillion, up 3% year-on-year; total revenue was $4.85 trillion, also up 3% year-on-year after adjustments. The growth rate of income and spending are synchronized, but the absolute value of spending is significantly higher than revenue, and the deficit gap remains sizable.

According to Bloomberg-compiled data analysis, the full-year deficit for fiscal year 2026 is expected to expand by $200 billion compared to 2025, second only to the pandemic crisis years of 2020 and 2021, making it the third highest deficit year on record in U.S. history.

The last month of the fiscal year, September, usually records a surplus due to corporate income tax filing deadlines, but this is unlikely to fundamentally change the trajectory for the year.

The interest burden is the core issue in current federal fiscal stress. Net interest payments for the first eleven months totaled $1 trillion, exceeding defense and all other major spending categories except social security and the Department of Health and Human Services (which oversees Medicare).

On a rolling 12-month basis, U.S. interest payments are now at a historic peak of $1.4 trillion, up 12% year-on-year.

By contrast, social security expenditures over the same period reached $1.66 trillion but are growing much more slowly. If this trend continues, net interest payments may surpass social security before the end of 2028, becoming the largest single line item in the U.S. federal budget.

The key factor driving the rising interest burden is the persistent increase in borrowing costs. Treasury data shows that as of the end of August, the average interest rate on marketable Treasuries had risen to 3.48%, more than 2 percentage points higher than five years ago.

As low-yield bonds mature and the Treasury is forced to refinance at higher costs, this figure will continue to climb. Currently, 23% of marketable U.S. Treasury debt is in short-term Treasury Bills (T-Bills). If the Federal Reserve resumes rate hikes, interest payments will face an even more direct and rapid impact.

Federal spending is growing faster than the government’s ability to increase revenue, with the gap between income and outlays showing signs of further expansion.

In August, the federal government spent $527 billion while collecting $360 billion in revenue. Looking at the past six months, the divergence between the spending and income trend lines is widening rapidly, with the growth rate of expenditures nearing the peaks seen during the COVID-19 pandemic, while revenue growth is constrained within a much narrower range.

The continued expansion of social security and federal Medicare spending is one of the main driving forces. As the number of retirees steadily increases, these “statutory benefit” programs face sustained long-term pressure, while Congress lacks the political will to reduce benefits or raise contribution levels.

Recent tariff refunds have also created a temporary impact on the deficit. The U.S. Supreme Court ruled in February that most of the Trump administration’s previous tariff hikes were illegal, resulting in several months of consecutive declines in net tariff revenues. However, in August, net tariff inflows rebounded to $12.8 billion.

Long-Term Yields Rise: From Risk-Free Benchmark to Fiscal Risk Pricing

The 2-year Treasury yield hit 4.66% and the 10-year reached 4.98% on Friday, both at multi-year highs.

The upward move in long-term yields largely reflects market compensation for risks related to a widening fiscal deficit, increased supply, and a deteriorating outlook for debt sustainability.

The Congressional Budget Office warned in February that by 2030, the U.S. federal debt-to-GDP ratio could exceed the 106% record set in 1946 as World War II ended.

Treasury Secretary Bessent has pledged to release a fiscal consolidation plan in the coming weeks or months, and said he is working with White House budget chief Russ Vought to develop the strategy. At the same time, he expects that as the government introduces new import tariffs based on other legislation, most of the previous tariff income will be restored.

The mutually reinforcing factors of debt levels, interest costs, and fiscal deficits are pushing long-term U.S. Treasury pricing from a "risk-free benchmark" toward a “fiscal risk asset.”

The market’s next focus will be on adjustments to issuance plans and the long-term Treasury buyback program in the Treasury's upcoming quarterly refinancing statement, as well as whether Bessent’s promised fiscal consolidation plan can be implemented in the coming weeks.