Huge amounts of debt among the world’s biggest economies are starting to unnerve financial markets again as elections cloud the fiscal outlook.
French bonds were hit after snap elections and big spending plans sparked alarm. US debt dynamics are in focus ahead of the November presidential election. A debt crisis is not the main scenario, but investors are alert to the risk of causing pressure on the market. Fiscal deficits are back in focus.
Who are the 5 “suspicious countries”?
1. France (EU)
The snap election was a “wake-up call” for investors who had previously been blindsided by France’s dire public finances. With a budget gap of 5.5% of output last year, France faces disciplinary measures from the European Union.
France’s bond premium over Germany briefly rose last month to the highest since the 2012 debt crisis as the far-right led the election race. A left-wing coalition eventually won, and a divided parliament may curb its spending plans, but it could also block any action to shore up France’s finances.
The head of France’s national audit office said on Monday that there is no room for maneuver on the budget and the debt must be reduced. Even before the new government, the EU expected debt to be around 139% of output by 2034, up from 111% today. France’s risk premium has declined but remains relatively high.
2. USA
The Congressional Budget Office estimates that public debt will rise from 97% to 122% of output by 2034—more than double the average since 1994.
Growing expectations that Donald Trump will win the November presidential election have boosted government bond yields recently as investors have priced in the risk of wider budget deficits and higher inflation. Some investors estimate that the worst outcome for bond markets would be a Trump presidency with a Republican-led House and Senate.
While U.S. Treasuries are sheltered from their safe-haven status, the yield curve is nearing its widest range since January, reflecting pressure on long-term borrowing costs.
3. Italy (EU)
Investors praised nationalist Prime Minister Giorgia Meloni as market-friendly. However, last year’s budget deficit of 7.4% was the highest in the EU.
Thus, Italy also faces EU disciplinary measures that will test market optimism. Italian bonds outperformed their counterparts. But the risk premium on Italian bonds briefly hit a four-month high in June as French bonds sold off, reflecting how quickly concerns can spread.
Rome aims to reduce the deficit to 4.3% this year, but has a dismal record recently of meeting fiscal targets.
Home renovation stimulus costing more than 200 billion euros from 2020 will put upward pressure on Italian debt for years.
The EU executive predicts that debt will rise to 168% of output by 2034 from 137% now.
4. United Kingdom
Britain has been on the worry list since 2022, when unfunded tax cuts by the then Conservative government hit government bonds and sterling, prompting central bank intervention to stabilize markets and a policy reversal.
A new Labour government, which has pledged to grow the economy while keeping spending tight, faces challenges, with public debt close to 100% of GDP.
It could jump to more than 300% of economic output by the 2070s, Britain’s budget forecasts said last year, with an aging society, climate change and geopolitical tensions posing major fiscal risks.
Stronger economic growth is key to debt stabilization.
5. Japan
Japan’s public debt is twice its economy, by far the largest among industrialized economies.
This is not an immediate concern because most Japanese debt is domestically owned, meaning these investors are less likely to flee at the first sign of stress.
Foreign investors own only about 6.5% of the country’s government bonds.
Fitch Ratings reckons price increases and higher interest rates could benefit Japan’s credit profile by swelling debt.
There are still some reasons for concern.
Japan faces a more than doubling of annual interest payments on public debt to 24.8 trillion yen ($169 billion) over the next decade, according to government estimates.
So any sudden jump in Japanese bond yields as monetary policy normalizes will cause turbulence.
At just over 1%, 10-year yields near highest since 2011
