A 432 Billion Dollar Month and the Arithmetic That Follows

One Month, 432 Billion Dollars

The Treasury announced this week that the government ran a $432.3 billion deficit in July, the largest since March 2021, a month when the federal government was in the midst of distributing pandemic checks to millions of Americans. There is not a similar set of programs taking place today.

The fiscal year runs from October to September, which makes July the tenth month into the current spending cycle. The government has spent $1.8 trillion more than it has earned so far.

At this rate, it is useful to put large numbers into a different context in order to understand them. If the government spent $1.8 trillion more than it earned over ten months, that is a difference of six billion dollars per day, every day, weekends included. The gap is not being made up by spending reductions, since the government spends what it needs to in order to operate effectively - the Treasury Department has to find willing buyers for the bonds it issues and the interest rate charged is what the buyer is willing to pay.

For all of the past fifteen years, this would not have been a problem of any significance. This month, it has become one.

What a Deficit Actually, and What It Is Not

Two numbers get conflated in this conversation that are not the same.

The deficit is a flow, a short term imbalance of revenue and expenditure. The number for July, 432.3 billion, is a flow, a measurement of how much the government spent in one accounting period versus how much it received.

The debt is a stock, what the government has borrowed at any given moment, and that number, not displayed prominently in the article but nonetheless useful, is approaching 40 trillion dollars. That figure has roughly quadrupled since 2008.

It is obvious that the two numbers are related, since the former adds to the latter, but it is important to distinguish between them. Every deficit adds to the debt, and the government has to pay interest on the debt, which is then reflected in the next deficit, assuming the government keeps the same interest rate. The increase in interest payments will be reflected in the budget, increasing the size of the deficit even if nothing else changes, and increasing the debt.

The relationship between the two numbers is not inherently bad, but it has become one as rising interest rates have far exceeded economic growth.

Six Percent of Something Enormous

The other way of putting the deficit number is as a percentage of gross domestic product. As a percentage, the deficit this year is approaching six percent of gross domestic product, a number historically associated with periods of war or deep recession. In either case, the government is spending far more than it is receiving, and the reason for the discrepancy is that the deficit spending is meant to stimulate the economy.

That does not appear to be the case this year, at least not directly.

Unemployment is at 4.1 percent, the S&P 500 set a record close this month, and corporate profits in the second quarter were robust. It was not a period of economic contraction, but rather a period of expansion, in which the government is borrowing heavily in order to fund the deficit, even as the economy does not need the help.

The importance of this distinction lies in understanding whether or not the deficit is structural or cyclical, words with very specific meanings in macroeconomics. A cyclical deficit disappears on its own as the economic cycle dictates, while a structural deficit requires active intervention

Where the Deficit Has to Come From

The government funds its needs by issuing debt in the form of Treasury securities, which are essentially the simplest financial instruments imaginable, a promise to pay the bearer a certain amount of money on a certain date.

Simplicity is a virtue in finance, but the details are important, and the number of maturities that the Treasury offers have a specific reason.

The government has to decide for itself how much debt to issue at which maturity, which has its own risks. It is cheaper to finance short term debt when short term rates are low, but there is a constant need to roll over maturing paper, usually at whichever rate happens to be in place at the time. Long term financing is more expensive, but predictable. The government that finances itself through short bills is essentially betting on rates remaining lower for longer, while a government that buys long term financing bets on not having to worry about rates for years at a time.

Why Supply Moves the Price of Money

The link between the government deficit and Treasury yields begins here.

The Treasury issues its bonds at auction and sets prices based on simple supply and demand. This means that if the Treasury needs to raise a lot of money, a larger quantity of bonds will have to be issued, pushing prices lower, yields higher, in order to attract buyers. A smaller quantity will see prices rise, yields fall, since there is less competition for the bonds on offer. In short, increases in supply will see yields rise, other things equal.

This may seem counter intuitive, but it is an indisputable fact of financial markets: higher supply pushes prices lower, which pushes yields higher.

A bond has a certain present value based on a promised future payment. If an individual buys a bond at a lower price, the present value of that future payment is higher, meaning the yield is higher.

When market participants discuss rising yields, they are discussing falling prices, and falling prices are the result of an imbalance between supply and demand.

The quantity of any given good supplied has a direct impact on its price at the market, and bonds are no different. Bonds issued, maturing each week, add to the supply of bonds for a given week and the Treasury will have to contend with whichever yield the market demands. This is why the size of the deficit influences the rate at which the government can borrow. The Treasury will always set the price based on the prevailing rate demanded for whichever maturity is purchased.

The Rollover Nobody Budgets For

The supply of bonds that the Treasury has to deal with every year is not only the bonds it purchases, but the ones it has to roll over as well. Bonds that have been issued and will mature have to be reinvented and resold, with no change to the overall quantity of paper outstanding.

It takes little imagination to realize that this is another pressure on bond prices from the Treasury. The government does not have the option to simply pay back the money when a bond matures, unless it possesses the quantity of cash necessary, which is exceedingly rare. The government has to sell new bonds in order to pay off old ones, which increases the quantity of bonds outstanding every year and puts additional supply on the market.

The impact of this additional supply is not immediately obvious, but it is undenielble. The government is always rolling over bonds, and the ones it issues, particularly when using short term financing to facilitate a rolling over every few years, will have to contend with higher rates.

The interest rate on the new bond will be higher than the one on the old bond, a change that will be reflected in the following year's budget. Rates on bonds issued several years ago are already set in stone. Each maturity represents the opportunity for the government to raise additional money at higher rates, which will increase the deficit and, subsequently, the debt, since the government will have to pay more in interest.

This is another reason why the deficit is no longer a uniquely political concern; there is no longer any political process that would cause short term rates to rise dramatically, since the government is no longer constrained in its borrowing options. A deficit creates a larger supply of bonds, which puts down bond prices, increasing yields, and creating additional burdens for the Treasury.

The Buyers Are Not Who They Used to Be

For most of the period since 2008, the United States has not had to worry about selling its debt. The Federal Reserve was buying Treasury bonds in order to stimulate the economy, and had no interest in negotiating on price.

Other central banks, particularly in Asia, bought Treasury bonds in order to diversify their holdings and hedge against movements in their home currency. Both buyers were uninterested in yield, taking bonds as a safe investment without regard for their characteristics. The combination of the two meant that a large amount of bonds could be sold without worrying about downward pressures on the price.

Neither buyer was interested in paying higher prices for bonds, and neither has been willing to do so, even now. The Federal Reserve is selling bonds as part of a larger initiative to reduce its assets, and only reinvests the proceeds from maturing bonds, a process that does not add to its treasury, while official demand from abroad has all but disappeared.

What the United States is witnessing now are buyers that are price sensitive and have alternatives to Treasury bonds, particularly those that seek a higher yield. Pension funds, insurers, hedge funds, and individuals buying bonds directly all have the option to buy different assets, and therefore require compensation for buying Treasury bonds. The yield on the bonds, and therefore their price, will reflect this.

The sensitivity to price is even more important than the overall shift in buyer type, because it has an immediate impact on prices. If the same buyers that previously purchased large quantities of bonds were still buying, the yield would not have risen as sharply as it did.

The Competition Nobody Talks About

The competition for buyers has one other source, one that is not explicitly discussed in this particular article, but worth mentioning for its impact on the Treasury. Corporations issue bonds just as the government does, and the purchasers of those bonds have the same alternatives as other institutional investors.

The competition for capital between government and corporate bonds means that the Treasury will not only see increased yields on its own bonds, but that the yields will be driven higher by this competition.

Both issuers are seeking investors that will allocate a certain amount of their portfolio to bonds, and either can increase the size of the offering to attract additional buyers. At a certain point, additional issuance from either will see yields rise, simply because there is not enough supply at a reasonable yield to satisfy all purchasers.

This is an example of a financial market mechanism, a force that causes prices to behave in a particular way, but it is also useful to understand the situation at a conceptual level. The competition for buyers between corporate and government bonds results in higher yields for both, other things equal, even if neither wishes for them to.

The Auction Calendar Became a Market Event

One reason why competition for buyers is relevant is because of the way in which it affects Treasury auctions. The Treasury sets out a financing plan, displaying how much it intends to sell and when. Prior to 2008, the announcement was of limited interest, as there was very little competition for Treasury bonds and the auction results had little relevance to the broader economy.

In 2026, an auction calendar is a financial market event that traders use to understand market conditions.

The most important consideration for an auction is supply, the number of bonds offered for sale. A decrease in supply will decrease competition for buyers and increase prices, while an increase in supply will have the opposite effect. Traders will watch the results of the auction, particularly the bid to cover, a measurement of total bids compared to total supply.

A smaller ratio indicates weakness in the market, as there are fewer buyers than needed to purchase all of the bonds on offer. Buyers will respond to the weakness and the ratio will rise in subsequent auctions, indicating improving demand. An increase in the yield on auctioned bonds is also an indicator of weakness, since it suggests that the Treasury had to offer a higher yield in order to attract buyers.

The Treasury is not helpless in the face of weakness, and can affect future auctions by taking advantage of its unique position as the sole issuer of government bonds. The Treasury can buy back certain bonds in order to reduce supply, particularly those older bonds with low liquidity. The Treasury can and has done this in the past, particularly when it has seen weakness in the market.

What Would Actually Bring Yields Down

There are three major ways that the United States can reduce Treasury yields.

The most obvious is a reduction in the deficit, which would reduce supply, reducing competition for the available bonds. The reduction in the size of the deficit has little chance of occurring, as the three largest areas of spending, social insurance, defense, and interest, are all politically difficult to reduce. Defense spending cuts tend to be unpopular regardless of which party controls the presidency and Congress, and social insurance spending is politically extremely difficult to discuss openly.

An increase in demand, particularly from the Federal Reserve or other official foreign investors, would also reduce pressure on bond prices. Neither is likely to do so, particularly in the near future, and the Federal Reserve is more concerned with inflation remaining comfortably above two percent.

A recession would also reduce interest rates, which would reduce the yields demanded by investors.

A recession would reduce the deficit, since the economy would be contracting, reducing income tax revenues and increasing spending on unemployment benefits, but it would also reduce interest rates directly, since economic growth and inflation expectations would both fall. The combination would create lower yields on all bonds as investors grew more concerned with economic stability and lower rates became the expectation.

Notice that in none of these cases is the reduction in Treasury yields a small thing.

Why This Reaches Everything Else

One reason why an explanation of bond yields is relevant to anyone outside of the financial markets is that Treasury yields are the foundation upon which almost every other financial price is determined. All financial markets have a reference rate that they use to value other assets, and for just about every market that reference rate is a Treasury bond.

A thirty year mortgage is priced according to the ten year Treasury, with an additional risk premium built upon it. Corporate bonds use the same reference, with additional premiums built according to the risk profile of the issuing company. Analysts use Treasury yields as a discount rate for forecasting future cash flows from companies, which means that increases in Treasury yields decrease the present value of all future income. Higher rates make anything that depends on future value more expensive while simultaneously lowering earnings expectations for growth stocks in particular.

This means that a government deficit has an impact on almost every asset price in the economy, not just the ones explicitly related to government spending. The impact takes place through the Treasury yields, and those yields respond directly to the supply of bonds, which is dictated by the size of the deficit. The deficit is a tenth of the way to a full fiscal year, with the government having spent almost 1.8 trillion more than it earned so far this year, at a deficit approaching six percent of gross domestic product, and the entire phenomenon is taking place during an economic expansion at a low unemployment rate. The change is taking place primarily because the composition of the buyers has shifted, since price insensitive investors bought the bonds issued over the past fifteen years. Price sensitive buyers are the ones purchasing bonds today, and the supply of bonds drives their prices, which dictates the yields.

The Bottom Line

A 432.3 billion dollar deficit is not an aberration or an outlier, it is the product of a tenth of a fiscal year that has seen the government spend one and a half trillion dollars more than it has received, creating a deficit approaching six percent of gross domestic product and an annual deficit significantly higher than in previous years. The impact of the deficit is no longer felt only in a political sense, as the combination of a price sensitive buyer base and an increased need for financing has turned the deficit into a market phenomenon.

Watch the auctions rather than the headlines. The deficits are announced every month and the general direction they take is obvious to anybody paying attention. The more important information has to do with the auction results, as the buyers react to the increasing supply of bonds, and the information is most useful when considered on an auction by auction basis.