US debt surge sparks global recession fears as Australian Treasury war-games fallout

The federal Treasury is war-gaming the financial fallout from a surge in global interest rates on government debt, oil prices and inflation amid fears it could drive the Australian and global economies into a recession and force some countries into austerity, according to reports in The Age and The Sydney Morning Herald.

Growing internal concerns center on runaway spending by US President Donald Trump, high inflation and demand by big tech companies to spend trillions on data centres — a combination that on Thursday contributed to a 1 per cent drop in the ASX200.

At the heart of the crisis is the sheer level of US government debt. Gross US debt is on track to reach a record $US41 trillion ($57 trillion) by the end of the year, the reports said. This year’s budget deficit is expected to top $US2 trillion, or more than 6 per cent of US GDP, despite strong economic growth.

Trump on Thursday promised to give every adult American a cheque for $US5,000 if Republicans win both chambers of Congress in the November midterm elections. The unfunded pledge, estimated to cost at least $US1.3 trillion, would add to the country’s existing inflation problems, according to The Age and the Herald. CNN reported that Vice President JD Vance suggested tariff revenue could help fund the payments, but that it would require an act of Congress.

The reaction from bond markets was immediate. Fortune reported that the 30-year Treasury yield rose above 5.3 per cent and the 10-year yield climbed to 4.9 per cent on Thursday, signaling investors demanding higher risk premiums for holding US debt. CNN said the 10-year yield surpassed 4.86 per cent, its highest level since 2023. Interest rates on US debt have soared by more than 22 per cent since late February, per The Age and the Herald.

UBS economist Paul Donovan, quoted by Fortune, said the “presumably deficit-financed stimulus would be larger than occurred during the pandemic” and that if bond markets believe the president, the deficit and inflation consequences “would be meaningful”.

A key factor lifting US interest rates is the country’s large budget deficits. Financial markets expect the Federal Reserve to raise interest rates later this month, the reports said. Fortune noted that Fed Chair Kevin Warsh has hinted that persistent price inflation is more worrying than the labor market, setting the stage to move rates from 3.5 per cent to 3.75 per cent. The CME FedWatch futures index showed a 64 per cent probability of a hike on Sept. 16, with Wells Fargo analysts saying a reading above 69 per cent would make a move virtually certain.

Oil reached $US101 a barrel on Thursday, its highest level since May, with some analysts forecasting $US120 in weeks, according to The Age and the Herald. Fortune attributed the rise to an Iranian official’s warning of escalated attacks on US forces in the Gulf, compounded by gains by Iran-backed Houthis in coastal Yemen that threaten key oil straits.

Interest rates on government debt are also being pushed higher by the global data centre building boom. AI companies are expected to spend $US1 trillion on infrastructure this year, competing with governments for investor cash. Pablo Hernández de Cos, general manager of the Bank for International Settlements, warned in a speech in India that the “scale and speed” of the AI boom warranted caution, citing historical parallels like the 1990s dotcom surge. “All drew in more capital than eventual returns could justify,” he said, adding that a correction could have economy-wide implications given households now hold more wealth in equities.

The impact is already hitting Australian taxpayers. Federal government debt has reached $1 trillion, and at its past three bond sales — for $2 billion worth of debt maturing between 2034 and 2037 — the interest rate was above 5 per cent for the first time since 2011. This week, interest rates on German debt hit a 15-year high, while British debt reached its highest since 2007. The ASX200 is down almost 5 per cent over the past month.

Treasurer Jim Chalmers, pressed in parliament on the higher rates, said they were climbing globally in a development that “the world is watching closely”.

Westpac chief economist Luci Ellis described the cause as America’s “fiscal incontinence”, noting the US deficit at 6 to 7 per cent of GDP versus Australia’s less than 1 per cent. “The one country that really needs to fix itself and end its fiscal profligacy is the United States, and that’s hard to see,” she said.

Writing in The Age and the Herald, senior economics correspondent Shane Wright reported that some of the nation’s best-informed business players now describe the outlook as “GFC-like”, with concern “flashing red”. The US interest bill has climbed to $US1.25 trillion a year — more than $US3 billion a day — as yields have jumped more than 20 per cent since late February.

According to Wright, last week Norway’s sovereign wealth fund revealed plans to cut its holdings of US government debt by 40 per cent, while the Netherlands’ central bank announced it was moving gold out of the United States. US Treasury Secretary Scott Bessent’s plan to buy $US6 billion in government debt was met coolly by markets, the reports said. Bessent also ranted at the Financial Times and the Wall Street Journal over their coverage of the debt issue, labelling the FT “anti-American”.

Investor trust in the US Treasury market — long considered the world’s safest investment — is eroding. “If investors continue to lose trust in the American government debt market, it will be American taxpayers and businesses paying the initial price,” Wright wrote.

CNN quoted Joe Brusuelas, chief economist at RSM US, calling Trump’s dividend proposal “the working definition of ill-timed and ill-advised fiscal policy”. James Reilly of Capital Economics told CNN it was “pretty safe to say it won’t happen” because of the inflationary impact and potential to force the Fed to raise rates significantly higher.