Passing of the so-called Big Beautiful Bill Act by US Congress is making bond markets increasingly uneasy considering the deficit implications, notes Raphael Olszyna-Marzys, international economist at J. Safra Sarasin Sustainable Asset Management.
As Congress advances a major budget bill extending Trump-era tax cuts and boosting defence spending, bond markets are growing uneasy. Though the near-term deficit impact appears limited, front-loaded tax breaks, rising interest cost, and likely extensions of temporary measures could push deficits to 7% of GDP. The reconciliation process might eventually water down the bill if long-term bond yields continue to move higher. Still, the budget outlook is likely to look worse than it is today, leaving America’s fiscal credibility and bond investors under pressure.
Bond markets brace for fiscal turbulence
Yields on long-term US Treasuries have risen in recent days, reflecting investor concerns over a sprawling new budget bill making its way through Congress. The House has advanced the ‘One Big Beautiful Bill Act’; (OBBBA) on Thursday, a comprehensive reconciliation package expected to be voted on by the full chamber shortly. The legislation seeks to entrench key elements of Donald Trump’s fiscal agenda, including:
- Making the individual tax cuts in the 2017 Tax Cuts and Jobs Act permanent;
- Eliminating federal taxes on tips, overtime pay and auto loan interest;
- Increasing spending on border security and defence;
- Cutting federal outlays on programmes such as Medicaid.
Even if the bill may not add significantly to the deficit in the short term – as its cost is largely driven by the extension of existing tax cuts –, it is unlikely to place America’s fiscal trajectory on a more sustainable path (Exhibit 1). Indeed, it may worsen it, pushing meaningful fiscal consolidation further into the future.
A complicated legislative path
Understanding the bill’s fiscal implications requires some grasp of the reconciliation process. This procedural tool allows legislation to bypass the Senate filibuster and pass with a simple majority but imposes restrictions on what can be included – especially provisions that are not directly related to revenue or spending. Both chambers issue instructions to their committees, which are tasked with crafting legislation that meets specified fiscal targets. These include caps on how much the deficit may rise over a ten-year window. Once committees have produced their versions, the bills are brought to the floor for a vote. The final legislation reconciles the House and Senate versions and must again pass both chambers.
The House passed the bill by a single vote. The Senate, which permits a much larger deficit increase – $5.8tn versus the House’s $2.8tn – will now take up the bill. That discrepancy suggests that proposed spending cuts in the House version are likely to be diluted. Even so, the final bill may end up raising the deficit by less than either cap allows. Timing is critical: the 2017 tax cuts expire on 31 December 2025, and failure to extend them by then would imply a sharp fiscal tightening in 2026 – equivalent to about 1–1.5% of GDP. President Trump wants to sign the bill by July 4, which also includes a provision to raise the debt ceiling with the Treasury likely running out of money at some point in August.
Deficit-raising ceilings ignore market expectations
The deficit ceilings may appear starker than they are. They measure the proposed expansion relative to current law, which assumes the Trump-era tax cuts will expire. Markets, however, have long assumed they would be extended. Hence, the $2.8tn increase in the House plan reflects a deviation from a legal fiction, not market expectations.
Revenue from tariffs, excluded from reconciliation calculations, adds further complexity. If maintained at current rates, tariffs could generate roughly $2.3tn over the next decade. Including that income, and accounting for rising interest costs – which are excluded from the fiscal targets –, the deficit could average around 6% of GDP over the next ten years, assuming an economy that is growing at its potential rate of 1.8%. That is close to today’s deficit level.
Nonetheless, OBBBA’s design exacerbates its fiscal risks. Tax cuts and spending increases are front-loaded, expiring in 2028; offsets come later. As much as 70% of new borrowing would occur within five years. History suggests that when temporary measures expire, Congress tends to extend them—especially tax cuts. If that pattern repeats, and if tariff revenue is factored in, the deficit could average 6.6% of GDP over the next decade, rising to nearly 7% in the latter half. Interest costs are a growing burden too. Under the current proposal, they would double from just under $900bn in 2024 to $1.8tn by 2034, or 4.2% of GDP. If temporary provisions become permanent, that figure rises to $1.9tn, or 4.4% of GDP, according to the Committee for a Responsible Federal Budget. Under the Senate’s more permissive framework, the deficit could exceed 7% of GDP over the full horizon.
Three key implications
- Bond markets to act as a guard rail in coming weeks
In the short term, bond markets may act as a guardrail. A bill that adds even more to the deficit than the House version may prove unacceptable to bond investors. Even the current one might need dilution.
- A meagre fiscal impulse in 2026
In the medium term, the bill’s immediate fiscal impulse will be modest. Most tax cuts are extensions rather than fresh stimulus, suggesting a lift to GDP of only about 0.25 percentage points in 2026 – fiscal policy is likely to act as a similar small drag on growth this year.
- Long-term fiscal outlook to darken and bond term premia to remain
Deficits will likely exceed both current projections and historical norms. Indeed, the forecasts assume trend-level growth over that period. A mild recession could push the deficit close to 10% of GDP; a severe one would almost certainly breach that threshold. And if the administration seeks to shift fiscal risk to foreign buyers of US debt, the chances of a future fiscal stress event will rise further. At a minimum, bond term premia are likely to remain elevated for the foreseeable future. Another implication is that, without tariff revenue, the deficit would increase by a further 0.5 percentage points of GDP, exacerbating the fiscal outlook. The administration is therefore unlikely to offer any substantial tariff concessions during the negotiations over the coming weeks and months.
By Raphael Olszyna-Marzys, international economist at J. Safra Sarasin Sustainable Asset Management
