Impact of federal budget deficits on the ex ante real interest rate yield on Moody’s Baa-rated long-term corporate bonds, 1960-2015

2017 ◽  
Vol 9 (02) ◽  
pp. 198-208
Author(s):  
Don Capener ◽  
Richard Cebula ◽  
Fabrizio Rossi
Keyword(s):  
Interest Rate ◽  
Real Interest Rate ◽  
Budget Deficit ◽  
Corporate Bonds ◽  
Federal Budget ◽  
Budget Deficits ◽  
Content Type ◽  
Federal Budget Deficit ◽  
The Us ◽  
Ex Ante

Purpose To investigate the impact of the federal budget deficit (expressed as a per cent of the Gross Domestic Product, GDP) in the US on the ex ante real interest rate yield on Moody’s Baa-rated corporate bonds and to provide evidence that is both contemporary and covers an extended time period, namely, 1960 through 2015. Design/methodology/approach The analysis constructs a loanable funds model that involves a variety of financial and economic variables, with the ex ante real interest rate yield on Moody’s Baa-rated long-term corporate bonds as the dependent variable. The dependent variable is contemporaneous with the federal budget deficit and two other interest rate measures. Accordingly, instrumental variables are identified for each of these contemporaneous explanatory variables. The model also consists of four additional (lagged) explanatory variables. The model is then estimated using auto-regressive, i.e., AR(1), two-stage least squares. Findings The principal finding is that the ex ante real interest rate yield on Moody’s Baa rated corporate bonds is an increasing function of the federal budget deficit, expressed as a per cent of GDP. In particular, if the federal budget deficit were to rise by one per centage point, say from 3 to 4 per cent of GDP, the ex ante real interest rate would rise by 58 basis points. Research limitations/implications There are other time-series techniques that could be applied to the topic, such as co-integration, although the AR(1) process is tailored for studying volatile series such as interest rates and stock prices. Practical/implications The greater the US federal budget deficit, the greater the real cost of funds to firms. Hence, the high budget deficits of recent years have led to the crowding out of investment in new plant, new equipment, and new technology. These impacts lower economic growth and restrict prosperity in the US over time. Federal budget deficits must be substantially reduced so as to protect the US economy. Social/implications Higher budget deficits act to reduce investment in ew plant, new equipment and new technology. This in turn reduces job growth and real GDP growth and compromises the health of the economy. Originality/value This is the first study to focus on the impact of the federal budget deficit on the ex ante real long term cost of funds to firms in decades. Nearly all related studies fail to focus on this variable. Since, in theory, this variable (represented by the ex ante real yield on Moody’s Baa rated long term corporate bonds) is a key factor in corporate investment decisions, the empirical findings have potentially very significant implications for US firms and for the economy as a whole in view of the extraordinarily high budget deficits of recent years.

The Impact of Budget Deficits on the Ex Ante Real Interest Rate Yield on Long–Term Treasury Notes in the USA

2014 ◽  
Vol 32 (1) ◽  
pp. 83-97
Author(s):  
Richard J. Cebula
Keyword(s):  
Interest Rate ◽  
Real Interest Rate ◽  
Budget Deficit ◽  
Federal Budget ◽  
Capital Inflows ◽  
Annual Data ◽  
Federal Budget Deficit ◽  
Ex Ante ◽  
Treasury Notes ◽  
The Impact

Abstract Using four decades of data, this exploratory empirical study adopts a loanable funds model to investigate the impact of the federal budget deficit in the U.S. on the Ex Ante real interest rate yield on ten-year Treasury notes. For the 40- year period 1973-2012, empirical estimation using quarterly data reveals that the Ex Ante real interest rate yield on ten-year U.S. Treasury notes was an increasing function of the Ex Ante real interest rate yield on Moody's Aaa-rated corporate bonds, the Ex Ante real interest rate yield on three-month Treasury bills, and the increase in per capita real GDP, while being a decreasing function of net capital inflows (as a percent of GDP) and the monetary base (as a percent of GDP). In addition, it is found that the federal budget deficit (as a percent of GDP) exercised a positive and statistically significant impact on the Ex Ante real interest rate yield on ten-year Treasury notes, a finding consistent in principle with a number of prior studies of various interest rate measures during shorter and earlier time periods. A robustness test using the Ex Ante real seven-year Treasury note yield and annual data supports these findings.

scholarly journals An Empirical Analysis of the Effects of Budget Deficits (Total and Primary) and Personal Income Tax Rates on the Ex Post Real Interest Rate Yield on Long-Term U.S. Treasury Bonds

2019 ◽  
Vol 11 (2) ◽  
pp. 203-218
Author(s):  
Richard J. Cebula
Keyword(s):  
Interest Rate ◽  
Income Tax ◽  
Real Interest Rate ◽  
Budget Deficit ◽  
Federal Budget ◽  
Personal Income ◽  
Budget Deficits ◽  
Personal Income Tax ◽  
Treasury Bonds ◽  
Ex Post

This empirical study adopts an open-economy loanable funds model to investigate the impact of post-Bretton Woods U.S. federal government budget deficits and personal income tax rates on the ex post real interest rate yield on thirty-year Treasury bonds. In this study, the budget deficit is measured in two different ways, the total (“unified”) budget deficit and the primary deficit (the total/unified deficit minus net interest payments). Two different estimation techniques, autoregressive two stage least squares estimation and the ARCH (Autoregressive Conditional Heteroscedasticity) Method, for the 1973-2016 study period provide evidence that the ex post real interest rate yield on thirty-year Treasury bonds has been an increasing function of both federal budget deficit measures (expressed as a percent of GDP) and the maximum marginal federal personal income tax rate. The estimations all imply that elevating either the total/unified or primary federal budget deficit appears to raise the cost of borrowing in the U.S., whereas reducing the maximum marginal personal income tax rate appears to reduce the cost of borrowing. Given the potential effects of longer-term real interest rates on investment in new plant and equipment and overall economic growth, policy-makers should not overlook these findings.

Financial market determinants of the real cost of funds to public corporations in the US

2016 ◽  
Vol 8 (1) ◽  
pp. 2-12 ◽  
Author(s):  
Richard J. Cebula ◽  
Fabrizio Rossi ◽  
Fiorentina Dajci ◽  
Maggie Foley
Keyword(s):  
Interest Rate ◽  
Real Interest Rate ◽  
Budget Deficit ◽  
Corporate Bonds ◽  
Capital Inflows ◽  
Monetary Base ◽  
Content Type ◽  
Ex Post ◽  
The Usa

Purpose The purpose of this study is to provide new empirical evidence on the impact of a variety of financial market forces on the ex post real cost of funds to corporations, namely, the ex post real interest rate yield on AAA-rated long-term corporate bonds in the USA. The study is couched within an open-economy loanable funds model, and it adopts annual data for the period 1973-2013, so that the results are current while being applicable only for the post-Bretton Woods era. The auto-regressive two-stage least squares (2SLS) and generalized method of moments (GMM) estimations reveal that the ex post real interest rate yield on AAA-rated long-term corporate bonds in the USA was an increasing function of the ex post real interest rate yields on six-month Treasury bills, seven-year Treasury notes, high-grade municipal bonds and the Moody’s BAA-rated corporate bonds, while being a decreasing function of the monetary base as a per cent of gross domestic product (GDP) and net financial capital inflows as a per cent of GDP. Finally, additional estimates reveal that the higher the budget deficit as a per cent of GDP, the higher the ex post real interest rate on AAA-rated long-term corporate bonds. Design/methodology/approach After developing an initial open-economy loanable funds model, the empirical dimension of the study involves auto-regressive, two-stage least squares and GMM estimates. The model is then expanded to include the federal budget deficit, and new AR/2SLS and GMM estimates are provided. Findings The AR/2SLS and GMM (generalized method of moments) estimations reveal that the ex post real interest rate yield on AAA-rated long-term corporate bonds in the USA was an increasing function of the ex post real interest rate yields on six-month Treasury bills, seven-year Treasury notes, high-grade municipal bonds and the Moody’s BAA-rated corporate bonds, while being a decreasing function of the monetary base as a per cent of GDP and net financial capital inflows as a per cent of GDP. Finally, additional estimates reveal that the higher the budget deficit as a per cent of GDP, the higher the ex post real interest rate on AAA-rated long -term corporate bonds. Originality/value The author is unaware of a study that adopts this particular set of real interest rates along with net capital inflows and the monetary base as a per cent of GDP and net capital inflows. Also, the data run through 2013. There have been only studies of deficits and real interest rates in the past few years.

BUDGET DEFICITS AND INTEREST RATES: THE US EVIDENCE SINCE 1946

2007 ◽  
Vol 52 (02) ◽  
pp. 191-200
Author(s):  
SHAKIL QUAYES ◽  
A. M. M. JAMAL
Keyword(s):  
Interest Rates ◽  
Corporate Bonds ◽  
Federal Budget ◽  
Private Investment ◽  
Budget Deficits ◽  
Real Rate ◽  
The Us ◽  
Potential Impact ◽  
Post War

Many economists believe that federal government's budget deficits result in higher interest rates. This increase in interest rates can stifle private investment and impede the real rate of economic growth for the economy. This paper examines the potential impact of federal budget deficits on long-term interest rates for corporate bonds. The study is based on post-war annual US data, and employs a standard demand-supply model. The empirical results in our study provide evidence that the increasing budget deficits lead to higher interest rate for corporate bonds. In this regard, our study supports arguments for the crowding out theory.

Impact of federal income tax rates and government borrowing on nominal interest rate yields on tax-free municipal bonds

2018 ◽  
Vol 10 (3) ◽  
pp. 342-350 ◽  
Author(s):  
Richard Cebula ◽  
Usha Nair-Reichert
Keyword(s):  
Interest Rate ◽  
Income Tax ◽  
Federal Budget ◽  
Nominal Interest Rate ◽  
Tax Rates ◽  
Budget Deficits ◽  
Content Type ◽  
Federal Income Tax ◽  
The Impact ◽  
Increasing Function

Purpose This study investigates the impact of federal income tax rates and budget deficits on the nominal interest rate yield on high-grade municipal tax-free bonds (municipals) in the US. The 58-year study period covers the years 1959 through 2016 and thus is very recent. Design/methodology/approach The study develops a loanable funds model that allows for various financial market factors. Once developed, the model is estimated by autoregressive two-stage least squares, with a Newey-West heteroskedasticity correction. Findings The nominal interest rate yield on municipals is a decreasing function of the maximum marginal federal personal income tax rate and an increasing function of the federal budget deficit (expressed as a per cent of GDP). This yield is also an increasing function of nominal interest rate yields on three- and ten-year treasury notes and expected inflation. Research limitations/implications When introducing additional interest rates such as treasury bills as explanatory variables, multi-collinearity becomes a serious problem. Practical implications This study indicates that lower maximum federal personal income tax rates and larger federal budget deficits, both act to raise borrowing costs for cities (of all sizes), counties and states across the country. Given the study period of 58 years, these relationships appear to be enduring ones that responsible policy-makers should not overlook. Social implications Tax reform and debt management need to be conducted in a very circumspect fashion. Originality/value No recent study investigating the impact of the two key policy variables in this study has been published.

Symposium on the Budget Deficit

1989 ◽  
Vol 3 (2) ◽  
pp. 17-21 ◽  
Author(s):  
Janet L Yellen
Keyword(s):  
Budget Deficit ◽  
Federal Budget ◽  
Economic Problem ◽  
Living Standards ◽  
Budget Deficits ◽  
Majority Opinion ◽  
Federal Budget Deficit

Is the ballooning federal budget deficit a serious economic problem? The papers in this symposium provide four perspectives on this issue. Robert Barro and Robert Eisner disagree sharply with the “majority” opinion concerning deficits. In contrast, Edward Gramlich and Douglas Bernheim are more sympathetic to the view that budget deficits lower national saving and thus contribute to a reduction in future living standards.

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