To label a country an emerging market ought to spark a frisson of excitement. Such economies are meant to be on their way to being “developed”: integrated with the global financial and trade systems, growing stably and providing their citizens with high incomes. Because they aren’t quite there yet, they must pay their creditors a premium. Yet the label also applies to countries where policies have become a tad too thrilling to be trusted. Think of tricky customers like Argentina, whose profligacy made it a serial defaulter on its sovereign debt, or Turkey, where interest rates remain low even as inflation blazes above 80%.
A growing cohort of blue-chip economies are now being talked about in similar terms—and the comparison is not meant to flatter. Britain made a spectacular entry into this financial purgatory in late September by unveiling plans for huge, unfunded tax cuts, sending the value of sterling crashing. It is far from the only wealthy country where government bonds have become unusually exciting. Worse, the dullness may not return for some time.
Part of the thrill has little to do with governments’ policies. This year central banks across the rich world have repeatedly raised interest rates, shrinking the present value of the coupons bonds pay out and causing their prices to sink. No one knows how high rates will rise, and for how long they will stay there. So bond markets are jittery across the board. The MOVE index, which measures how clueless bond investors feel about the future, is at nearly twice its average over the five years to February 2020, when the pandemic first shocked markets.
Monetary-policy surprises are not new to developed-market bond investors with long enough memories (just think of the technicolor 1980s). Instead today’s suspense is over two novel forms of uncertainty: whether rich-world governments can afford the vast volume of debt they are issuing, and whether the market can absorb it.
Start with the quantum of debt. Most rich-world governments already have heaps of it because they spent the past 15 years bailing out their citizens and companies from successive crises. When financial panics gripped banks, lockdowns forced shops to close and huge energy bills threatened to freeze households, the reflex was to dole out public money. Fiscal largesse remains in fashion: America is throwing bungs to green industries, and there is no end scheduled to Europe’s lavish energy subsidies.
This habit of big government was formed during years in which rock-bottom interest rates kept funding costs low and rich-world creditors lenient. Now the interest bill is rising, exposing the spending plans of developed-market governments to the kind of scrutiny formerly reserved for their counterparts in the emerging world. Moody’s Analytics, a research firm, projects that by the middle of this decade America’s Treasury Department will be spending more on interest payments than it does on defence. Britain’s Office for Budget Responsibility, a watchdog, estimates that this fiscal year its government will disburse £120bn ($146bn) on interest—the equivalent of 80% of the budget for England’s National Health Service.
For a decade or so, investors were not alone in buying the debt that funded rich-world governments. Throughout the 2010s, and until recent months, much of it was being acquired by central banks through quantitative-easing programmes. Now those buyers are disappearing, leaving bond investors alone to soak up the excess.
Hence the second big unknown: are bond markets deep enough to cope with the coming flood? In the fiscal year of 2023 America’s Treasury may need to borrow up to $2trn from the market—nearly twice what it borrowed from investors annually during the two years preceding the pandemic and four times the average in the five years before that. Citigroup, a bank, reckons Britain’s government will need to seek twice as much net cash from the bond market in the next fiscal year as it has in the past eight combined.
If it had been proposed by a Latin American government, such an issuance schedule would have already sent bond yields soaring. Rich countries have long enjoyed much more freedom and evaded the full price of fiscal incontinence. Now, though, they are looking to investors to buy vast quantities of debt amid rising borrowing costs and a murky economic outlook. The bond-market drama could have many more instalments.
Read more from Buttonwood, our columnist on financial markets:
Has private equity avoided the asset-price crash? (Dec 1st)
How crypto goes to zero (Nov 24th)
The tenacity of ESG investing (Nov 17th)
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