Bond selloff pushes Europe’s governments toward prudence

Rising bond yields and higher interest costs are starting to change how European governments talk about their budgets. Over the past two weeks, policymakers in London, Paris and Rome have taken small steps toward fiscal restraint as the selloff revived memories of the euro-zone debt crisis, Bloomberg reported.bloomberg+1

Bonds have fallen across advanced economies in recent weeks as markets prepared for more inflation from the Middle East energy crisis. France has been hit hardest. The extra yield investors demand to hold French 10-year bonds instead of German ones reached its highest level since 2011. Italy's spread also widened sharply.finance.yahoo

Concessions in Paris, Rome and London

France's 2027 budget includes €43 billion in measures meant to cut the deficit to 5% of output next year from 5.4%. Finance Minister Roland Lescure said market pressure "helps us a bit," adding: "I have the impression that even Le Pen has converted to fiscal discipline". On Sept. 24, far-right leader Marine Le Pen said she might not try to bring down the government over the budget. "A bond market crisis could erupt overnight," she said.finance.yahoo

In Italy, the wider spread appears to have pushed Prime Minister Giorgia Meloni to make a last-minute cut of up to €8 billion in defense borrowing. Extra military spending over two years will now be 0.6% of output instead of 0.9%. In Britain, where bond yields have hit multi-decade highs, Prime Minister Andy Burnham proposed ending the "triple-lock" state pension guarantee. He promised to "project a message of confidence and stability to markets and the world".finance.yahoo

Officials Urge Credibility

On Thursday, Oct. 8, European Commission finance chief Valdis Dombrovskis rejected requests from Italy and Greece for more budget room. He stressed "the need for fiscal prudence, especially in the light of current bond-market developments". The same day, European Central Bank chief economist Philip Lane said governments "have to be realistic about the fact that the interest rate environment has changed." Bank of England Governor Andrew Bailey said fiscal policy must "be seen by markets as credible".finance.yahoo

Bundesbank board member Michael Theurer called the selloff a "clear warning sign" in an interview with Deutschlandfunk. "There is currently no systemic sovereign debt crisis, but the risks have increased significantly," he said. He added that there was no case for ECB intervention for now.briefs

Limits of the Shift

The concessions may not be enough to keep bond vigilantes at bay, and it is not yet clear whether they will last. Le Pen has called on the ECB to help, left-wing candidate Jean-Luc Mélenchon wants government debt cancelled, and Belgium still has no budget deal. Federico Barriga-Salazar of Fitch Ratings pointed to the market turmoil under former UK prime minister Liz Truss as a warning: "It is what happens when you say as a politician, 'well, we don't care about the market.' I think those lessons have been learned".finance.yahoo