Growing national debt may be keeping mortgage rates high —and housing expensive

The next obstacle to cheaper mortgages and more affordable homes may not be inflation or the Federal Reserve, but Washington’s debt.

President Trump’s fiscal 2027 budget blueprint has drawn renewed scrutiny because it does not lay out a clear long-term plan to stabilize the nation’s $38 trillion debt burden, even as annual deficits grow $2 trillion per year.

That matters for housing because heavier government borrowing can push up financing costs if investors demand higher returns to keep lending to Washington—pressure that can spill into mortgage rates and construction financing.

“Persistent deficits and rising federal debt will create greater uncertainty about Washington’s ability to finance them,” explains Dennis Shea, executive vice president and chair at the J. Ronald Terwilliger Center for Housing Policy.

“The increased perception of risk will likely lead investors to demand higher yields for US Treasuries, which could increase mortgage costs as well as the cost of construction financing,” he adds.

For now, that risk is still mostly theoretical—but that’s also what makes this moment important. If the problem is recognized early enough, it can still be addressed before it shows up more fully in housing costs. 

Fed Chair Jerome Powell, speaking broadly about the fiscal outlook at Harvard in March, put the larger concern bluntly: “The level of the debt is not unsustainable, but the path is not sustainable.”

Why national debt could keep mortgage rates high

If you want to understand the risk that national debt poses to mortgage rates, it helps to look at the last six weeks.

Mortgage rates rose sharply after the US launched a joint military campaign against Iran in late February in lockstep with 10-year Treasury bonds, as investors priced in greater geopolitical and inflation risk.

“We saw 10-year Treasury yields and mortgage rates spike recently because of Middle East tensions and the increase in the price of oil. Mortgage applications dropped significantly as a result,” explains Shea.

After a fragile ceasefire was announced, rates trended back down as investor worries cooled.

But national debt raises a different concern—not a temporary spike, but the possibility that long-term rates stay elevated even if the Fed cuts short-term rates.

We may have already seen this kind of pressure, notes Danielle Hale, chief economist at Realtor.com®. When the Fed cut rates by a full percentage point between September and December 2024, mortgage rates rose by nearly the same amount alongside 10-year Treasury yields, she notes.

“In addition to concerns about the outlook for inflation in late 2024, some analysts suggested that rising federal debt was a driver of this disconnect,” she says. 

“Much like an inflation-driven dynamic, debt-related impacts on interest rates are driven by the outlook. This means that small changes today in deficits or inflation can have an outsized impact on today’s rates if investors believe that these changes will be persistent,” Hale adds.

That’s where the scale of federal borrowing matters. 

“The US government is the largest borrower in the world. It has to offer a competitive interest rate to encourage investors to keep loaning it money” Adam Millsap, a senior fellow at Stand Together Trust, explains.

When the government is borrowing heavily, he adds, “it has to increase interest rates to attract more investors,” and “higher Treasury rates push up mortgage rates, as well as car loans, small business loans, credit card rates, etc.”

“While it is hard to predict future geopolitical developments and their impact on mortgage affordability, rising federal debt will almost certainly increase the risk premium that investors in Treasuries will demand with negative consequences for the mortgage market,” Shea adds.

So how bad is the national deficit?

Washington is currently spending $2 trillion more annually than it brings in, according to Cato’s analysis of Trump’s fiscal 2027 budget blueprint.

But the bigger issue in the budget is that it still does not address the main forces driving the debt higher over time: Social Security, Medicare, Medicaid, and the government’s own interest payments on existing debt. As Cato notes, those costs are projected to consume all federal revenue by 2036.

That doesn’t mean a debt crisis is imminent, or that the US has no way to stabilize the problem. But it does put more pressure on the budget’s lack of a clear way to address this turning point.

Investors respond to future plans as much as they respond to present realities. If they believe higher deficits are temporary, the market impact may be limited. If they believe the imbalance is likely to persist, the pressure on long-term borrowing costs can be much greater.

Hale says inflation is a useful analogy.

“If investors believe that the changes are more temporary or transient, they may not have much of an impact at all,” she says. “The Fed works very hard to keep inflation expectations anchored. In other words, they want investors to expect that any increases in inflation will not be long-lived and thus should not have a large effect over time.”

Where higher rates would hit housing

The current market already offers a clear example of how elevated mortgage rates can push out first-time buyers and households near the edge of affordability.

But Shea warns that rising government debt could also siphon away investments from the housing market.

“More government debt purchased by investors will crowd out financing that would otherwise be available to the private sector,” he says. “In the housing market, this may lead to fewer investments in homebuilding.”

In a country already facing a 4.03 million-home shortage, that kind of pressure could hit housing on both sides at once: by buyers being locked out and by making it harder to build the homes needed to ease prices.