Bond Vigilantes Are Putting Governments on Notice

(Bloomberg Opinion) — On a rather quiet final Friday of the year, I used my Bloomberg Terminal to check how key government bond yields in advanced economies have changed in 2024. After all, these are widely regarded as the most accurate gauge of the economic outlook, including growth, inflation and central bank policies. It is, therefore, interesting to see the many ways in which bond yields defied the majority of forecasts in 2024 and consider what that means for the year ahead.

The first thing that struck me is the extent to which 10-year bond yields have increased in a year that saw central banks in advanced economies begin cutting interest rates and during which record amounts flowed into fixed-income investments.

As part of the general move up, the US 10-year Treasury yield, a global benchmark, rose by 0.75 percentage point during the year to 4.63% last week, near its 2024 high of 4.70%. Only the UK came near the US, with its 4.63% yield having climbed by a more dramatic 1.10 percentage points despite considerably weaker growth dynamics and less intense inflationary pressures. 

Within the euro zone, we witnessed a once unthinkable convergence between the region’s core and its periphery. Germany, the regional benchmark, saw its yield rise by 0.37 percentage point. France had a 0.65 percentage point gain, more than triple Greece’s 0.19 percentage point. Meanwhile, in Asia, the near doubling of Japan’s yield to 1.11% happened in the sort of orderly manner that few would have expected.

The factors that contributed to these unexpected and, in some cases, unusual developments go well beyond changes in expectations for growth, inflation and monetary policy in two interrelated ways. This is particularly true for Europe.

First, bond markets have become more sensitive to debt dynamics, whether that’s high primary budget deficits or the self-reinforcing impact of higher borrowing costs on deficits and debt levels. This is most visible in productivity-challenged countries whose ability to grow out of debt faces stronger headwinds. Indeed, some have labeled 2024 as ushering in the return of “bond vigilantes,” a term that was widely used in the 1990s but was largely forgotten after that except for a limited time in 2012-2014 during the euro zone debt crisis.

Second, bond markets have been paying greater attention to domestic political developments. This is most apparent in the euro zone, where we’ve seen a dramatic reversal of the conventional wisdom of the past decade. This year, the market took note of the political instability that frustrated economic reforms in France, a core country, as well as the higher growth and budget calm enabled by a well-functioning government in the peripheral economy of Greece.

This greater focus on debt and political stability is likely to continue into 2025, as will the extent of dispersion between the US, euro zone and Japan. For investors, this is likely to impart both rate and currency volatility to what has otherwise become a more attractive environment for the sleep-at-night “carry trade” that can anchor a diversified portfolio with significant equity and credit exposure.

More From Bloomberg Opinion:

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Mohamed A. El-Erian is a Bloomberg Opinion columnist. A former chief executive officer of Pimco, he is president of Queens’ College, Cambridge; chief economic adviser at Allianz SE; and chair of Gramercy Fund Management. He is author of “The Only Game in Town.”

More stories like this are available on bloomberg.com/opinion