The Federal Reserve has lost control. Soaring national debt and its interest payments—the second-largest budget item—force policy decisions. This "fiscal dominance" is pushing the U.S. towards an inevitable sovereign debt crisis within a decade.

When national debt grows too large, an economy enters "fiscal dominance." The central bank loses its ability to manage the economy, as raising rates causes hyperinflation to cover debt payments while lowering them creates massive asset bubbles, leaving no good options.

While fiscal deficits are common across developed markets, France faces surging bond spreads over Germany because of the large gap between sluggish GDP growth and high borrowing costs. Investors demand a higher risk premium when ongoing political dysfunction blocks credible deficit reduction and projected debt servicing costs significantly outpace national output expansion.

Elevated yields force emerging market sovereigns to make increasingly large primary balance adjustments to offset compounding interest payments. Even without major forecast fiscal widening, staying at wide post-COVID deficits under high borrowing costs creates a persistent fiscal trap that prevents yields from easily retreating.

Sovereign debt's value, and thus a currency's credibility, is underpinned by three limits. Governments have surpassed the economic limit (debt rises faster than GDP), the fiscal limit (deficits become unsustainable), and the inflationary limit (money printing causes inflation). This breach is why reserve currency status is now in question.

A key metric for debt sustainability is the relationship between the average interest rate on all outstanding debt (R) and nominal GDP growth (G). The US is currently in a favorable position with R at 3.6% and G higher. However, rising short-term rates threaten this dynamic, which could accelerate debt ratio increases.

When a government's deficit spending forces it to borrow new money simply to cover the interest on existing debt, it enters a self-perpetuating "debt death spiral." This weakens the nation's financial position until it either defaults or is forced to make brutal, unpopular cuts, risking internal turmoil.

The optimal strategy for high-debt economies is growing out of the problem. However, this growth pressures the bond market. The key challenge is maintaining this strategy without resorting to politically explosive benefit cuts or inflationary money printing.

Governments with high debt cannot simultaneously keep yields low, maintain a strong currency, and avoid austerity. Guest Alberto Gallo argues one of these pillars must break, with currency debasement being the most likely initial outcome, followed by a potential credit market crisis.