In October, France’s newly appointed prime minister Michel Barnier warned of a “sword of Damocles” hanging over the nation — its “colossal” debt.
His try to deal with the nation’s creaking funds with a €60bn bundle of tax rises and spending cuts led to the tip of his premiership simply two months later. A downgrade of France’s credit standing by Moody’s adopted, with the company forecasting an increase within the debt-to-GDP stage from 113 per cent in 2024 to 120 per cent by 2027.
The danger for France, Moody’s warned, was the consequences of a “negative feedback loop between higher deficits, a higher debt load and higher financing costs”.
It’s a situation more and more fretted over by policymakers throughout the developed world, as they watch debt ranges attain or exceed 100 per cent of GDP.
Veteran macro investor Ray Dalio has urged nationwide governments to keep away from a “debt death spiral”, the place their fast-rising money owed get uncontrolled as they try to lift extra money to cowl surging curiosity funds, in flip driving these borrowing prices greater nonetheless.
The OECD just lately estimated that its 38 members had been anticipated to borrow a document $17tn in 2025, up from $16tn final yr.
“Global debt markets face a difficult outlook,” the organisation warned in its annual debt report in March.
Nonetheless, analysts don’t imagine a sovereign debt sustainability disaster amongst developed nations is probably going within the close to time period, barring an enormous coverage error.
Worries over ranges of presidency borrowing have been round for years, and bond markets have continued to soak up document issuance. Buyers level to the facility of central banks to arrest any speedy rise in bond yields via emergency asset-purchasing programmes.
However a gentle ratchet greater in bond yields because the begin of the last decade — partially attributable to central banks promoting down these disaster holdings — has turned up the temperature. There’s additionally unease about governments’ persevering with reliance on fiscal stimulus to attempt to gasoline financial development.
“Governments around the world have got used to running these huge deficits. Everyone has been asking themselves, how high can these deficits go and what is the endgame?” says a senior dealer in authorities bonds.
Yields on 30-year US Treasuries topped 5 per cent final month to achieve their highest since late 2023, as traders dumped the debt in a sell-off pushed by President Donald Trump’s commerce struggle and exacerbated, fund managers say, by fiscal issues. UK borrowing prices of the identical maturity reached their highest since 1998.
The rising price of debt is already affecting governments’ priorities. Barnier’s successor François Bayrou warned final month France can be “heading to a crisis” with out spending cuts and highlighted the danger from rising borrowing prices.
Curiosity funds wolfed up 3.3 per cent of GDP throughout the OECD group of nations final yr, the most important share since at the very least 2007.
“Public debts continue to increase with no limits in sight,” says Koen De Leus, chief economist at BNP Paribas’s Belgian arm. He argues {that a} “snowball effect is slowly forming” in international locations such because the UK and Italy, the place common rates of interest on debt are starting to outstrip development charges.
If international locations don’t at that time stability their budgets, “or better even realise a primary budget surplus, your [debt-to-GDP ratio] gets out of control,” De Leus provides. The US can be “entering the danger zone” on an analogous evaluation, he says.
If the road the place big money owed tip right into a debt disaster is unimaginable to attract, turbulence in bond markets in current months has supported the argument that it’s getting nearer, with traders repeatedly highlighting the UK, France and even the US as below stress.
Throughout France’s political disaster on the finish of final yr, the extra rate of interest on its debt relative to Germany’s benchmark Bunds reached its highest stage since 2012, as traders feared for the near-term financial outlook.
Within the UK, the federal government warned of future tax rises even after it had unveiled a £14bn plan to enhance the general public funds, as rising yields erased the brand new chancellor’s wriggle room in opposition to her self-imposed fiscal guidelines.
However the greatest fear is the near-$30tn Treasuries market, which not solely funds US authorities spending but in addition supplies the bedrock secure asset of the worldwide monetary system.
Past the current sharp unload triggered by Trump launching his commerce struggle, the scale of the price range deficit, at greater than 6 per cent of GDP, is a key concern highlighted by fund managers, together with the potential for it to deteriorate additional via the president’s tax-cutting agenda.
The Financial institution of England dropped a sale of long-dated bonds within the current turmoil, underlining the menace to broader markets.
Some commentators argue that these episodes are linked, reflecting that the bond market has moved into a brand new interval of antagonism, the place traders are placing stress on governments to enhance their funds. It is a policing position it has performed in occasions previous.
“The bond vigilantes have come back following years of hibernation,” says BNP’s De Leus.
Even Germany, a traditionally reluctant borrower, is popping on the fiscal faucets, main a European cost to extend defence spending.
Many argue {that a} transfer greater in yields may be defined by regular inflationary pressures and doomsaying over debt is overdone.
“Everyone is always worrying about government bond supply,” says Nick Hayes, a fund supervisor at Axa’s funding administration arm. He argues provide is comparatively simple to forecast, with international locations telegraphing their borrowing plans, whereas demand is “near impossible” to foretell. “So therefore people ‘overweight’ the worry about supply and ‘underweight’ an assumption on demand,” he provides.
Large economies may avert issues if they’ll handle to stoke greater development, or be pressured to reside with the next stage of inflation than they might have endured in any other case to “inflate away” a few of their debt.
All-important US Treasury yields, regardless of the current sell-off, stay beneath ranges seen two years in the past. Many traders view the present stage of yields as a massively enticing entry level.
Pete Drewienkiewicz, chief funding officer at consultancy Redington, argues long-dated gilts supply a horny yield in opposition to friends and will outperform, given the UK’s “determined focus on fiscal responsibility”.
One space the place there’s broad settlement is that yield curves will stay steep in an surroundings of larger debt provide. The additional rate of interest paid on 30-year US debt versus 2-year debt has reached its highest in three years, and longer for the UK.
Some bondholders count on governments to problem a larger proportion of short-term debt, to insulate themselves from greater long-term yields. The UK has stated it will accomplish that this yr.
Robert Dishner, senior portfolio supervisor at Neuberger Berman, argues that governments rolling their debt over extra regularly would face “prices being determined on how well they are doing fiscal consolidation”, be that much less spending, greater taxes or higher development.
He provides: “More than a sovereign debt meltdown, markets are likely to keep governments on shorter leashes.”
