A Treasury paper released on Friday confirms the expectation of economists that Commonwealth Government debt won’t push up interest rates, and that US debt is a much bigger influence.

This is not surprising, given the nature of global capital markets.  Bond traders around the world are looking for the best bond yields / interest rates, so if Commonwealth Government borrowing temporarily pushes up Australian interest rates, bond traders in New York, London and Tokyo will notice the higher yields on Aussie bonds and buy a few more, lifting their prices and bringing down bond yields (bonds pay a fixed $ coupon amount on a regular basis, so a higher bond price means a lower yield).

Australian interest rates tend to be higher naturally than US interest rates, however, because investors need to be compensated for the risk of our dollar depreciating.  The Treasury research is showing that investors don’t think the levels of Commonwealth debt they’ve seen over the last twenty years have made the Australian economy / dollar a riskier investment proposition.  If Australian government debt levels did worry investors, then the margin between Australian and US interest rates would increase.

The Treasury paper is here:

Reconsidering the Link between Fiscal Policy and Interest Rates in Australia