jmherbenerAt the end of 2012, the Federal debt is $16.4 trillion, but the debt held by the public was $11.5 trillion. The Interest paid on treasuries held by the Fed go to the expenses of the Fed and any surplus is remitted back to the Treasury.
The interest paid on the federal debt in 2012 was $220 billion. Federal expenditures in 2012 were $3.6 trillion. So interest made up 6 percent of the Federal budget. Interest rates could double or even triple without initiating a nightmare scenario on the Federal budget.
Arbitrage does not eliminate the difference in interest rates between high-yield securities and AAA. So if Treasuries are further downgraded and command higher interest rates to entice lenders to buy them, then there will be no arbitrage between the higher interest rate Treasuries and higher rated securities.