It’s not Jackson Hole, Wyoming.
The European Central Bank (ECB) holds its confab of central planners in Sintra, Portugal, in the hills west of Lisbon. Under tiled villas and palace gardens overlooking the Atlantic, banking muckity-mucks pretend to discuss inflation, interest rates and the machinery of modern finance.
On Wednesday, the newly minted U.S. Federal Reserve Chairman, Kevin Warsh, took his seat alongside Christine Lagarde of the European Central Bank, Andrew Bailey of the Bank of England and Tiff Macklem of the Bank of Canada. CNBC’s Sara Eisen moderated.
Warsh had crossed the Atlantic carrying one of the most consequential questions in global markets: What will the Federal Reserve do with interest rates when it meets at the end of July?
Eisen pressed him for an answer.
Warsh declined.
The decision, he said, would come after members of the Federal Open Market Committee “shut the door” and began deliberating. When Eisen persisted, Warsh told her she would “fail” to break his rule against offering advance guidance.
“You make your own judgments,” he told the room.
Inflation risks “have come down,” Warsh acknowledged, though he warned investors against assuming the Fed would tolerate inflation above 2%.
“If there were people in households, the business sector, the financial markets, who thought that this central bank was gonna be comfortable with an inflation objective above 2%, I guess they’d be disappointed,” he said.
Traders interpreted the Sintra roundtable comments and assigned a 30% probability to another rate increase in July, down from the 57% we observed last week.
Warsh’s new approach gives every inflation report, employment release, oil-price move and Treasury auction more influence. He has refused to submit a ‘dot plot’ during his first FOMC meeting as its Chairman, questioning its usefulness.
Going further, he reduced the flow of directional hints and invited markets to rediscover the old-fashioned practice of determining prices without receiving the answers in advance.
That change arrives as the United States Treasury becomes more dependent on the interest rate Warsh controls. But if we’re paying attention, we can discern a strategy from the comments both Warsh and Treasury Secretary Scott Bessent have made publicly.
According to Warsh’s direct and rather refreshing stance, it’s our responsibility to do the math correctly. Let’s give it a shot…
🧾 Half a Trillion a Week
The U.S. federal government is now selling more than half a trillion dollars in short-term government debt each week. Jamie McGeever put the number in perspective in a June 9 Reuters column.
Pushing hard on the “string” – the short end of the curve – Treasury bill issuance has climbed above $500 billion a week of securities maturing in one year or less.
Money-market funds, banks and corporations have absorbed the paper without much complaint. Nearly $8 trillion remains parked in money-market funds, giving Treasury access to a large reservoir of cash seeking liquid securities that behave almost like money and remain useful as collateral throughout the financial system.
Treasury bills now account for just under 22% of the government’s marketable debt. That share already exceeds the 15% to 20% range preferred by the Treasury Borrowing Advisory Committee and is moving toward 25%, a level more often associated with recessions and financial emergencies.
A flood of new T-bills is reshaping the financial landscape. As the government leans more heavily on short-term borrowing, investors are shifting cash into higher-yielding, low-risk assets — with ripple effects across stocks, bonds and the banking system. (Source: SIFMA Research)
“It’s hard to identify a tipping point number,” Lou Crandall, chief economist at Wrightson ICAP, told McGeever, “but as you start to move above 25% of an expanding net borrowing need, the Treasury will have to look harder at the likely sources of demand.”
The buyers remain available. Money-market funds have cash. Banks need collateral. Corporations need somewhere to park working capital. Treasury can finance a large portion of the deficit at the short end without immediately increasing the size of longer-term note and bond auctions.
That convenience comes with a short fuse.
A ten-year Treasury note fixes Washington’s interest expense for a decade. A three-month bill returns to market four times a year and must be refinanced at the prevailing rate each time.
McGeever called the arrangement Treasury’s “$500 billion-a-week T-bill fix.”
“The impact of rolling over notes and bonds at higher rates takes years to manifest,” he wrote. “But only months with bills.”
Each quarter-point move from the Federal Reserve now reaches the government’s financing costs more quickly.
In other words, the chairman, sitting beneath the Portuguese sun, has acquired a direct line to the federal budget. And they will be forcing interest payments the Treasury needs to pay down on the front end of the rate yield curve.
🕳️ The Hole Beyond 2026
Treasury’s May quarterly refunding documents provide a useful map for the rest of this year.
Current auction sizes should cover the government’s needs through fiscal 2026. Bessent and Co. plan to keep nominal note, bond and floating-rate note auction sizes unchanged for at least the next several quarters, using bills when additional cash is required.
Its balance at the Federal Reserve is expected to approach $1 trillion in late July.
The larger problem begins after the current fiscal year.
Not to get too wonky, but the details of what Bessent is trying to orchestrate are interesting.
According to the May 5 minutes of the Treasury Borrowing Advisory Committee, median primary-dealer forecasts imply a $1.3 trillion financing shortfall during fiscal 2027 and 2028 if coupon auction sizes and bill supply remain unchanged.
Dealers had estimated a $1.1 trillion gap in February. Three months later, another $200 billion had appeared, like a contractor explaining that the kitchen renovation uncovered plumbing.
Treasury can keep leaning on the bill market as long as demand remains strong. Dealers do not expect a broad increase in coupon issuance during fiscal 2026.
The auction calendar eventually has to grow.
A $1.3 trillion gap cannot be filled indefinitely by feeding more three- and six-month paper into a market already swallowing half a trillion dollars a week.
Treasury will have to issue more two-, three-, five- and seven-year notes. Longer-duration supply may also rise, though dealers expect the largest increases nearer the front and middle of the curve.
Dhiraj Narula, HSBC’s head of U.S. rates strategy, warned Reuters that delaying those increases could force the Treasury into larger “catch-up increases” later.
That would place more fixed-rate debt into the market while investors are already demanding a higher term premium for inflation uncertainty, large deficits and the privilege of lending Washington money for several decades.
The yield curve can move in two directions at once.
Curve volatility (CVOL), which measures how much Treasury yields fluctuate, remained subdued while the yield curve traded sideways before surging in early 2026 amid a downside breakout and the Iran conflict. While yields reversed sharply higher, the wider trading ranges kept volatility elevated until markets stabilized and volatility leveled off. (Source: Bloomberg)
Short rates may decline if inflation cools and the Fed eases. Ten- and 30-year yields may remain stubbornly high as investors confront deficits, auction supply and the amount of capital the Treasury must raise.
The Fed can lower the overnight rate. It cannot manufacture a thirty-year buyer who dislikes the offered yield. But if banks catch on and see they can get money cheaper, sooner, mortgage rates, HLOCs and even non-predatory credit card rates can and will drop.
💸 The Trillion-Dollar Tab
Here’s the rub.
At the current pace, the Peter G. Peterson Foundation expects net federal interest expense to exceed $1 trillion (or more) during fiscal 2026.
By 2036, the annual bill is projected to reach $2.1 trillion. Interest payments over the coming decade are expected to total $16.2 trillion.
Measured as a percentage of the economy, this year’s interest burden will exceed the previous post-World War II record set in 1991. Interest on the national debt was already slated to cost more than national defense and Medicare. That is, until the Trump Department of War started blowing things up in Iran.
America’s defense spending has entered a new era of sustained growth. Rising geopolitical tensions and military modernization have pushed Washington to commit hundreds of billions of dollars to national security, creating a multiyear tailwind for defense, aerospace and advanced technology companies. (Source: IMF)
Congress spends its time arguing over discretionary programs because those debates provide television cameras, villains and ribbon-cutting ceremonies. Interest receives no ceremony. It arrives automatically, presented by bondholders with legally enforceable claims and little interest in campaign slogans.
Through the first four months of 2026, federal interest payments reached $616 billion, more than $100 billion above the comparable period two years earlier.
McGeever cited CBO estimates showing that interest costs will reach 3.3% of gross domestic product (GDP) and consume 18.6% of federal revenue this year.
Nearly one dollar in every five collected by Washington will be sent back out to service earlier borrowing.
In Empire of Debt, we described how imperial finance gradually rearranges government priorities. Borrowing begins as a tool, becomes a habit and eventually turns maintenance of the debt structure into a governing principle of its own.
The rising share of short-term bills accelerates that process.
Higher rates will be reflected in the bill portfolio within months. Unless the Fed can drive down short-term rates.
Treasury has avoided paying the full term premium charged by long-term investors and, in return, has tied more of the federal budget to decisions made behind the closed door Warsh described in Sintra.
That makes Bessent and Warsh the two most critical decision makers in Trump’s administration.
🚪 Behind the Fed’s Closed Door
Warsh’s appearance in Portugal offered the bond market a preview of the second half of 2026.
He intends to reveal less.
During the Bernanke, Yellen and Powell years, Federal Reserve officials prepared markets for each policy move through speeches, minutes, dot plots and press conferences. Investors traded the hint before the policy arrived.
Warsh appears more willing to let investors watch their own footing.
At his first Federal Open Market Committee meeting in June, Wall Street Journal reporter Nick Timiraos wondered whether Warsh would submit an interest-rate projection at all.
Refusing to participate in the dot plot would weaken one of the Fed’s most closely watched signaling devices without requiring an official announcement that it had been abandoned.
In Sintra, Warsh also said he wants the Fed to begin using better real-time economic information within nine to 12months. He considers some government surveys dated, slow or vulnerable to measurement problems.
The bond market will receive fewer assurances and more responsibility.
Each inflation reading will carry greater weight. Each employment report will move expectations more sharply. Oil prices will feed into inflation forecasts and Treasury yields.
Auctions, once buried in the financial pages, may begin receiving the attention usually reserved for Apple or Nvidia earnings.
Warsh believes markets should make their own judgments.
Markets generally charge for that privilege.
Greater uncertainty tends to manifest as greater volatility and a higher lending premium over long periods. Mortgage rates, corporate borrowing costs and long Treasury yields may move more abruptly as traders determine policy expectations without a guided tour from the Eccles Building.
📈 A Yield Curve With Two Drivers
Warsh said inflation risks have eased. He also made clear that the Fed’s 2% target remains in force.
Continued cooling would give the central bank room to cut rates later this year. Not hike them as many in the financial media are expecting.
The Warsh opening gambit is a tricky one. The Fed has a lot of control on short-term rates. Long rates? Not so much.
The 10-year and 30-year markets must absorb continuing deficits, eventual increases in coupon auction sizes, inflation uncertainty and a federal interest burden already above $1 trillion.
Primary dealers can see the $1.3 trillion financing gap approaching in fiscal 2027 and 2028. Long-term investors can see it, too.
Our forecast for the second half is for the yield curve to steepen.
Short-term rates may decline later in 2026 as inflation eases and Warsh gains room to cut. The move will reduce borrowing costs for the AI buildout, which is one stated objective of the Warsh Fed. It will also ease borrowing costs for homeowners and small-business owners in the real economy.
Longer yields are likely to remain elevated because Congress can’t agree on what a woman is, let alone pass 12 different spending bills within a rat’s hair of a balanced budget in a single calendar year.
Federal borrowing continues regardless of the overnight rate. That combination would steepen the curve, particularly if Treasury begins preparing investors for larger coupon auctions.
A weakening economy could make the divergence more pronounced. The Fed will try to lower short-term rates even while Congressional spending adds to the Treasury supply.
Steady growth and declining inflation would provide the friendliest outcome, though the scale of federal issuance would probably restrain any rally in long bonds.
Investors spent much of the past forty years learning that the end of a Fed tightening cycle was an invitation to buy long-dated bonds. That reflex now has to contend with a federal government borrowing at wartime scale during relative peace.
🪙 Waiting for the Stablecoin Cavalry
Treasury Secretary Scott Bessent has promoted regulated dollar-backed stablecoins as a new source of demand for Treasury bills. We’ve affectionately referred to stablecoins (and Bessent’s support) as Dollar 2.0 assets.
Stablecoin issuers maintain reserves against the digital dollars they issue. Under a federal regulatory structure, those reserves would include cash, repurchase agreements and short-term Treasury securities.
A larger stablecoin market would create buyers for the same bills the Treasury is issuing in record volume.
As we are painfully aware, the legislation intended to support that market has stalled in the Senate, currently sitting behind the Save America Act on the President’s agenda.
Galaxy Research reduced its estimate of the likelihood that the Clarity Act would become law in 2026 from 60% to 50%. Alex Thorn, Galaxy’s head of research, blamed the shrinking legislative calendar and the amount of work still required.
“The runway is quickly declining into just a matter of weeks,” Thorn wrote.
The White House had wanted the legislation passed by July 4. Independence Day will arrive before the bill.
Supporters now need Senate Majority Leader John Thune to reserve floor time after senators return on July 13. Banking and Agriculture Committee language still has to be reconciled. Negotiators remain divided over ethics restrictions, legal protections for non-custodial software developers, Agriculture Committee jurisdiction and the payment of yield on stablecoin balances.
The bill needs 60 votes. Any Senate amendments would send it back to the House.
Bessent may eventually receive his new class of Treasury buyers. They will not arrive in time to carry the second-half financing load.
🇺🇸 Hamilton’s Machine
It’s worth pointing out, as we head into the July 4, 250th anniversary celebration that Alexander Hamilton built the original American debt system between 1790 and 1791, when the United States was young, broke and carrying a collection of unpaid Revolutionary War obligations scattered across thirteen states.
His First Report on the Public Credit proposed consolidating those obligations into a single national debt. The federal government would assume the states’ war debts and exchange them for new national bonds payable at full value.
The design gave wealthy bondholders a direct financial interest in the survival of the United States. If the federal government prospered, its bonds would be paid. If the republic failed, the bonds became expensive wallpaper.
Hamilton then created the revenue needed to service the debt.
Tariffs on imported goods raised money while protecting young American industries. An excise tax on whiskey reached into the domestic economy. Customs houses and tax collectors converted trade and consumption into interest payments for the new bondholders.
His Second Report on the Public Credit, submitted in December 1790, proposed the First Bank of the United States. The bank held government funds, issued a national currency and provided credit to businesses. By 1792, it was operating branches in Boston, New York, Baltimore and other commercial centers.
Hamilton’s Report on Manufactures, delivered in December 1791, completed the architecture. Tariffs, subsidies, public credit and banking would help transform an agricultural republic into an industrial power.
The debt financed the government. Taxes serviced the debt. The bank organized the money. Industry expanded the economy that supported the whole arrangement.
Hamilton’s machine worked. Too well, some would argue.
The new United States established strong credit and gained the ability to borrow abroad when war or national development required it. Public debt tied private fortunes to the success of the federal government and gave the young republic financial standing among older European powers.
The modern Treasury still operates inside the broad structure Hamilton assembled.
Washington issues national debt. Taxes and tariffs provide revenue. Banks and financial markets distribute the paper. Public credit allows the country to borrow during emergencies.
The scale has changed. And since the 1980s, while Reagan was trying to spend the Soviet Union out of existence, the federal government has accumulated debt in every legislative session save one in 1997, when some creative accounting showed a slight surplus for one year.
Congress hasn’t passed all 12 of the annual spending bills in a single fiscal year since 1996… three decades ago.
Hamilton used debt to consolidate the nation and finance its industrial future.
Today, nearly one dollar in every five collected by the federal government goes toward interest on debts already accumulated. Treasury sells more than $500 billion in short-term paper each week and relies on money-market funds to roll the bills every few months.
The bank at the center of the system has become the Federal Reserve, whose chairman sat in Sintra this week and declined to tell investors what their next financing costs would be.
Hamilton wanted public credit to bind investors’ fortunes to the republic’s survival. Two hundred and thirty-six years later, the Republic is increasingly bound to the patience of its investors.
~ Addison
P.S. The Treasury market does not need to suffer a buyers’ strike to create trouble. A few tenths of a percentage point added to several trillion dollars of annual borrowing can accomplish plenty on its own.
