The thesis is simple and familiar: the United States is running a fiscal deficit and a current account deficit (i.e. “twin deficits”) and relies on domestic and foreign investors to buy US Treasuries.

The  bigger the fiscal deficit is the more Treasuries investors – including the Federal Reserve – need to buy. At the same time, the more Treasuries that have to be sold, the highest the interest rate all else equal… until something snaps (or unless an stock market crisis forces the Fed and investors to monetize/park cash in Treasurys).

This was, in a nutshell the grim message from the IMF’s latest Fiscal Monitor Report, which warned that the US would be the only country with growing debt levels over the next 5 years.

What the IMF did not elaborate on, however, is that in many countries, such twin deficits have resulted in a debt crisis. So, picking up where the IMF left off, Deutsche Bank conducted an analysis which found that “the deteriorating fiscal and external situation for the United States have increased the probability of a US debt
crisis by 7 percentage points, from a historical average below 9% to a level around 16%.” More details:

As shown in Figures 10 and 11 below, the model-implied odds of a crisis are set to tick higher over the next several years as government debt levels increase and the current account deficit grows. Indeed, the probability tends to rise to an abnormally high level outside of recessions. The pre-crisis average was around 9%; the next four years will average a bit more than 15%.

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