US Long-Term Interest Rates Rise as Global Economic Forces Shift

U.S. government bond yields have reached levels not seen since 2008, with a real natural interest rate of nearly 2.6% contributing to nominal yields around 4.7% on ten-year bonds. This marks a significant increase from the 1.6% real rate observed between 2010 and 2015. The shift is attributed to a reversal of global economic forces that previously kept rates low for decades.

Historically, factors like the Baby Boomer generation saving for retirement, China's large trade surpluses leading to purchases of U.S. debt, and reduced defense spending after the Cold War created an abundance of savings and a scarcity of investment opportunities, driving down interest rates. However, these dynamics have reversed. The Baby Boomers are now drawing down savings, China has reduced its foreign exchange reserves, and increased geopolitical risks have made reserve assets, including U.S. bonds, appear riskier. Additionally, European NATO countries are increasing defense spending, adding to debt levels.

The U.S. national debt has surpassed 100% of its GDP, a figure projected to reach 111% by 2030. This increased borrowing, coupled with a new wave of investment in artificial intelligence infrastructure, is creating genuine demand for capital, pushing interest rates higher. While this increases borrowing costs for the government and consumers, it is seen as preferable to the stagnation of the previous decade.

In contrast, Israel is experiencing a different trend in the short term. The Bank of Israel's interest rate has been lowered to 3.5%, with expectations of further decreases. Ten-year Israeli government bond yields are around 3.9%, and the debt-to-GDP ratio is approaching 70%. This divergence means short-term rates are falling in Israel while long-term rates remain high globally, impacting the dollar exchange rate and local bond pricing.

Despite the higher borrowing costs, the current yield on U.S. government debt offers a more attractive return for conservative investors compared to the near-zero yields of the past decade. However, the rising interest payments are a significant portion of the U.S. budget deficit, and substantial corporate debt taken out at low rates during the pandemic is now coming due at a much higher cost.