Government borrowing costs around the world have surged to the highest levels in decades amid growing fears over US bond market turmoil.
Anxiety about Donald Trump’s handling of the US economy, and concern that the US president’s war with Iran is driving up inflation, are triggering a sell-off in the US bond market.
Highlighting the world economy’s dependence on US stability, the yield – in effect the interest rate – on UK, French, German and Japanese government debt has been dragged higher.
What is happening in the bond market sell-off?
Long-term US government borrowing costs have risen to the highest level since 2007, with the 30-year Treasury bond yield trading above 5%.
A bond is a form of loan that investors make to a borrower, or bond issuer. The yield represents the money an investor receives for owning the debt as a percentage of its current price. Prices fall when investor demand wobbles, which pushes up yields.
Against this backdrop, the US Treasury secretary Scott Bessent said this week that Washington would at least double its purchases of long-term US bonds in an attempt to assuage investor concerns. Washington also staged a joint intervention this month with Tokyo to prop up the value of the Japanese yen.
Bessent’s intervention on Wednesday helped to push down yields, but the impact was only temporary: they were rising again on Thursday, reversing most of that early move.
With US Treasury bonds a lynchpin in global financial markets, the rise in US borrowing costs has dragged yields higher for other countries. G7 nations have faced among the sharpest increases: UK 10-year bond rates are close to the highest since 2008 and 30-year rates are near 1998 levels; Germany’s are at 2011 levels and France at a 16-year peak. Japanese borrowing costs have also hit the highest level since 1996.
Why are bond investors rushing for the exits?
The breakdown of negotiations in the US-Israel war on Iran is the main trigger for investor unease. The US national debt hitting $40tn (£29.3tn) for the first time – after having doubled over the past decade – is also stoking fear that Donald Trump’s tax and spending plans are unsustainable.
The stop-start fighting in the Middle East has pumped up the oil price – in turn fuelling worries over inflation and the hit to economic growth worldwide.
Inflation is bad news for bond investors. This is because it undercuts the future value of money received for owning the debt; so investors demand a higher yield to compensate for the risk.
In response to the inflation shock, the world’s most powerful central banks are also increasingly expected to raise interest rates. However, the unpredictable nature of the Iran war, and of the Trump administration, are making the challenge tougher.
Albert Edwards, a senior analyst at Société Générale, said: “Many also believe US bonds are having a tantrum because new Fed chair Kevin Warsh refuses to spoon-feed investors with the forward guidance they had become accustomed to.”
Investors are also worried by political risk: in the US, the fear is Trump has little appetite to curtail soaring borrowing and debt levels. Investors have asked similar questions of Britain’s prime minister, Andy Burnham, and France is preparing for an election year in 2027 amid mounting political schisms. Japan also faces challenges as it pumps up government spending despite elevated debt levels and with its currency under pressure.
Some analysts have also suggested Washington’s yen intervention was driven by worries about falling Japanese demand for US treasuries. Before the joint action, Tokyo had been attempting to prop up the currency by selling holdings of US Treasuries to free up money to buy yen, a move that pushed down bond prices and lifted yields.
The AI boom is another factor. Silicon Valley companies are borrowing heavily to fund their rollout of datacentres, which means bond investors are being asked to swallow sizeable amounts of debt.
What are the consequences going to be?
The impact is far-reaching. Higher yields will push up the costs for consumers and businesses for their mortgages, loans and corporate bonds – hitting their capacity to spend elsewhere, and weighing on the economy more broadly.
Governments worldwide, already awash with debt after the economic shocks of recent decades, are being squeezed. The rise in interest costs will not only add to Washington’s debt pile, complicating Trump’s tax and spending plans, but also make life harder elsewhere; including the UK and France ahead of tough budgets.
Some experts warn of a doom loop: whereby higher debt costs crowd out room for governments to spend on growth-enhancing measures – locking in weak economic growth and tax revenues; making budget deficits and rising debt levels more likely.
For the UK chancellor, John Healey, analysts at Société Générale expect the rise in borrowing costs could erase about half of the £23.6bn headroom left in reserve in the spring against the government’s self-imposed fiscal rules.
What happens next?
Much will depend on how the Iran war unfolds; and on whether the Trump administration changes course on tax and spending, or intervenes again in markets to support bond prices. The response from the world’s most powerful central banks will also be key.
The US has historically held an “exorbitant privilege” given the US dollar’s status as the global reserve currency, ensuring demand for dollar assets and enabling it to run persistently high trade and budget deficits. However, some analysts warn that the Trump administration is putting this at risk through the president’s trade policies and eye-wateringly expansive tax and spending plans.
The uncertainty comes as pressure is likely to mount on Trump ahead of the midterm elections in November.
Most investors will be looking for any easing in geopolitical tensions, further market intervention, or a shift in tax and spending policy from Washington. Central banks offering reassurance could also help.
However, some analysts warn that the ingredients are there for a market accident. Société Générale’s Edwards, who is famous for his gloomy predictions, said the conditions could be coming together for a US financial crisis.
Highlighting parallels to the conditions preceding the 2008 global stock market crash, triggered by the US sub-prime debt crisis, and the 1997 Asian financial crisis, Edwards said: “Just as well I have a long memory, for I can remember exactly what was happening in financial markets the last time French and US long bond yields were at these levels – c2007 and even further back to c1997 for Japanese and UK yields.”
