The cost of flattening the curve

Markets are now pricing roughly a 50-57% chance the Fed hikes 25bps at the September 16 FOMC meeting, a scenario that seemed unthinkable a year ago. After Chair Warsh’s hawkish Jackson Hole remarks (headline PCE running 3.7% YoY, core at 3.3%), the “higher for longer, maybe even higher” narrative is back on the table. It’s difficult to see how that’s going to help the curve, without breaking a lot of things. Here’s what a 25bp hike would actually mean:

(1) for the Cost of Federal debt. The US carries ~$40T in gross debt at an average rate of 3.35%. FY2026 interest expense is already running at $1.04T (CBO), up 14% YoY through July alone. A 25bp hike doesn’t hit all at once, it phases in as debt rolls over. On Year 1: T-bills (~$6.6T, 21% of marketable debt) reprice almost immediately →$16-17B in added annual interest. On Year 2-3: as more of the ~$15.7T in notes mature and reprice → cumulative added cost climbs toward $40-55B/year, and a full pass-through (7-10 years, once the whole $40T stock reprices) means $100B/year, the theoretical ceiling of 0.25% × $40T.

But it doesn’t end here, because it also affects (2) The deficit: Interest already ate 44.5% of the Q1 FY2026 deficit ($602B). A 25bp hike adds directly to a mandatory outlay; no offset, no debate. In year one that’s roughly 2-4% of this year’s deficit tacked on; by year three, the added interest burden alone could rival a meaningful chunk of a full percentage point of GDP if rates stay elevated. This is exactly why CBO sees interest costs overtaking Medicare by 2028 and becoming the single largest federal expenditure by the late 2040s.

(3) it most likely affect the Yen. The USD/JPY is sitting near 159, close to 2026 lows for the yen, with the Fed at 3.50-3.75% against a BoJ still near the zero bound. A Fed hike widens that differential further, which is rocket fuel for the yen carry trade: borrow cheap yen, buy higher-yielding USD assets. Expect more downward pressure on the yen, more intervention risk (Japan has already run an ~$85B operation this year), and, if the BoJ responds with its own hike, the kind of violent unwind we saw in August 2024, when a carry-trade reversal took ~18% off bitcoin in days and rattled global equities.

(4) It has the potential to create real damage for Commercial Real Estate. CRE is already staring at a $875-936B maturity wall in 2026 (17% of the $5T outstanding), with another $652B in 2027. Loans maturing now carry average rates of 4.1-4.7%, while today’s origination rates run 6.2%+ — already a ~150-200bp “rate shock” before any Fed move. A 25bp hike pushes floating-rate bridge and construction loans (tied to SOFR) up further and nudges cap rates wider. Office is the epicenter: 83.7% of pre-2026-matured office CMBS loans are already delinquent. Every basis point matters at the margin for refinancing gaps that already require fresh equity to close.

And (5) it will severely affect the consumer. The U.S. total US card debt: $1.263T (Q2 2026), with the average interest-accruing account already at 22.15% APR, a modern-era high. Card APRs float with prime, which moves roughly 1:1 with fed funds, so a 25bp hike shows up in your statement within 1-2 billing cycles. Applied across the roughly $900B in interest-accruing balances, that’s about $2.2-2.3B in additional aggregate annual interest nationally, modest per household (~$16-17/year on the average $6,610 balance), but landing on a consumer base where 90+ day delinquencies just hit 13.1%, the highest in 15 years, and 53% of balance-carriers say they’re using credit just to cover groceries, utilities, and healthcare.

After all this, one question remains: can Warsh, and above all, the U.S. economy, afford this risk?

Want to know more? You can register for free at Fund@mental.

#iamfundamental #soyfundamental #wealthmanagement #familyoffice #financialadvisor #financialplanning #policymistake #ratecut #stagflation