Why Long-Term Bond Yields Are Up in the US, UK and Japan

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1:16With our unified Team Michigan approach, businesses scale faster and compete at the highest level. Michigan. Pure opportunity. Seize your opportunity at michiganbusiness.org. Bloomberg Audio Studios. Podcasts. Radio. News. A global sell-off in long-dated bonds, including 30-year guilts and U.S. Treasuries and Japanese government bonds, has deepened. U.K. 30-year bond yields rose to the highest since 1998. 98. It's out of control, putting extra pressure on the PM. Japanese bonds are joining the global bond slide. Yields on long-dated bonds across the world continue to edge up. Developed economies around the world are dealing with concerns about inflation and demographics, domestic politics and geopolitics.

2:07Bloomberg Economics' Jamie Rush says what we're seeing this week is part of a larger trend. Some investors are losing confidence in their leaders over the long term. and its softening demand to buy into those governments' long-dated bonds. What we've seen over the past year has been a significant climb in bond yields, right? And most recently, and in particular, we've seen an increase in 30-year or very long maturity bond yields. In the UK, 30-year bond yields hit 5.75%, their highest level since 1998. On Wednesday morning, the yield on the 30-year U.S. Treasury bond almost hit 5 % for the first time since July before it stabilized.

2:48Jamie says investors have been paying close attention to a series of bond auctions this week. And there are a couple more coming up in France and Japan. People are now focusing very closely on the results of bond auctions to see whether the appetite is there. Jamie says this appetite for long-dated debt gives us insight into investor psychology, how confident investors are in an economy's long-term prospects. And this route has raised a lot of questions. Why are people so worried about locking up their money for 30 years? What does that tell you about the broader appetite for debt? And does it mean that actually, as we get closer towards tipping points further out, will we see interest rates at short-term maturity start to rise?

3:34I'm David Gurra, and this is The Big Take from Bloomberg News. Today on the show, what a sell-off in long-dated bonds in developed countries tells us about the challenges economies are facing all over the world.

3:49As prices of long-term debt have fallen in the U.S. and the U.K. and Japan and elsewhere, and the yields on those bonds have soared, I asked Jamie Rush of Bloomberg Economics what's responsible. He told me central banks are under a lot of pressure to sell bonds right now. So quantitative tightening, the act of winding down balance sheets that were bloated during the pandemic and the global financial crisis, that was supposed to be like paint drying. I've not seen paint dry in this fashion before. It's a bit more exciting than it should be. So I think there's a big element of central banks stepping out of the picture, releasing bonds into the market.

4:27But Jamie says in the case of the UK and Japan, the rise in yields is being driven by some unique factors. In Japan, the central bank spent years trying to keep borrowing costs down by buying up its longer-term bonds, so-called yield curve control. And now they're dialing that back. So Japan, the end of yield curve control, well, that means you haven't got control of the yield curve. It's now being exposed to market forces in a way that hasn't been the case for quite a number of years. UK, the retirees that are now sitting on their yachts, whatever it is that they're doing and spending down their retirement savings, well, they were a huge source of demand for very long dated debt.

5:07And there's a structural rotation out of long dated debt as those pension schemes are now starting to mature. So UK, Japan, France as well. The political impasse in France, the fractured politics of the country makes it incredibly difficult to pass budgets as we are seeing, expecting the fall of another government relatively soon. And you can add into that, of course, Germany's decision to spend a lot more also kind of creating fiscal gisses and the ongoing situation in the US where we have the same sorts of problems in terms of keeping the deficit under control. So all of these factors are coming together right now.

5:41And they're sort of, in some ways, idiosyncratic. So I think you can't discount them. They're important. And they're happening now. The moves we've seen in recent days are startling. But Jamie argues they're part of a broader trend. I think it's also important to take a step back and consider the broader sweep of history. What were the reasons why interest rates fell for such a long time? When you think about interest rates, what it is that determines interest rates globally is not really central banks. They have to pick whatever interest rate stabilizes inflation. What matters over this longer period is the balance between saving and investment in the global economy.

6:17More people wanting to save pushes interest rates down. more people wanting to invest pushes rates up. And so there are structural forces which have determined these things over the past 50 years. The other ones that are really important generally fall under the geopolitics umbrella. We all thought we lived in a relatively safe world. Well, Putin's invasion of Ukraine has revealed that we don't live in a safe world. And so governments around the world are having to scramble to invest in military equipment. And more investment, higher interest rates. We also think about China and oil producers.

6:54For many years, they were saving their export revenues and they were funneling them into the US treasury markets. More saving, lower interest rates. And so that was a dominant factor as globalization was occurring after China's accession to the WTO. Well, we know that globalization is not happening at quite the same force. And allied to that, it was actually becoming really cheap for us to upgrade our technology and infrastructure. So because of the abundance of production in China, cheap capital goods, cheap computers, cheap tech, all of that meant we didn't have to spend as much on investment.

7:28Less investment, low interest rates. Again, that's now flipping into reverse. The tectonic shifts we've seen in geopolitics are now swinging into the opposite direction and they are pushing rates up. So I think that broader sweep of history is really important and we are at something of an inflection point. Jamie, let's talk about demographics. Some economists have suggested that as a population ages, like in Japan, like in the U.S., where baby boomers are retiring and drawing down their savings, that is impacting demand for longer-term bonds. And I'm wondering how demographics change or complicate that demand.

8:01So some people would tell you that the thing that matters is life expectancy. So people think ahead to how long they're going to live and make their saving decisions. And in that world, demographic bulges in the population don't matter too much because people are planning ahead. You don't have these movements in savings. Others, and I consider myself among them, would say that people are pretty hopeless at predicting their life expectancy and just kind of take it as it comes. And therefore, you do see some shifts in flows of spending when these demographic bulges move through the distribution.

8:34And one way to kind of extract yourself from that debate is to try and estimate the impacts directly. We found when we estimated it that, yes, the dependency ratio to the number of retirees and children or students to the prime age working population, that ratio does appear to matter to interest rates over long horizons. And you have more dependents, you've got less saving and therefore does have an upward impact on interest rates. Jamie, let's zero in on the UK where we've seen some of the most dramatic moves in longer term bond yields. How big have they been? Well, we've seen it move up of around about 110 basis points over the past year in the UK.

9:16So that's a move up to 5.7 % in 30-year borrowing costs. It's taken us back to interest rates that we haven't seen since the late 1990s. I would not say that the UK stands out as an enormous outlier at this juncture. If you look at bond yields for France, for the US, for Japan, for Germany, they've all moved up to varying extents. But there are a couple of things which matter for the UK. And so without trying to get into too much detail, which most people find boring, but the way that the UK does it is we produce a forecast for the economy five years ahead, a forecast for revenues, spending, and the gap between those two things in five years is the target variable.

9:58Now you can guess that a lot of those things move around all the time. It's the difference between two very large numbers, the deficit. And so whenever some of those numbers change, there's a knee-jerk reaction to try and correct the course of fiscal policy, which means that people never have any stability when they're thinking about what's going to happen to taxes in the future, what's going to happen to spending. They always feel that something may be coming, and that makes it actually very hard to invest and make decisions. In the UK, Chancellor Rachel Reeves is trying to plug a massive budget hole.

10:29Bloomberg Economics estimates it's£35 billion. pounds. And with higher interest rates, doing that becomes a lot harder. The cost of borrowing goes up. It's something that's clearly on the mind of President Trump, who's pressuring the Federal Reserve to lower interest rates. His latest tax and spending bill is projected to add almost three and a half trillion dollars to the deficit in the coming years. I suppose there is a belief in the UK up until a few years ago, because of the strength of institutions and the UK's position in the world economy that you didn't really have to worry about the bond market too much.

11:05I mean, you have to set sensible policy, but that you can take for granted the fact that the UK is going to be a big issuer and that it's going to be a liquid issuer and you don't have to panic about different deviations and course corrections in fiscal policy. Well, we've learned that that's not really true because you can actually do policies which are enough to undermine confidence in the bond market. And once it's gone, that perception of fiscal credibility, once it's shed is extremely hard to win back. And I suppose that is the lesson. It would be unwise to be complacent about fiscal policy.

11:38It would be unwise to be complacent about the U.S.'s position at the heart of the global financial system and assume that that means that there will always be demand for U.S. Treasuries and that that is assured. I don't think that's the case. Looking forward, the Fed is scheduled to meet in a couple of weeks. The expectation on Wall Street seems to be the small rate cut. If that happens, what would that mean for the US bond market, for the bond market more broadly? Well, I think for some of the reasons I set out earlier on, the structural forces driving interest rates, they're particularly effective at the longer horizon.

12:11So thinking about 10-year treasuries, which means that you can expect that even if the Fed does cut rates a bit, you wouldn't expect that to translate into one-for-one reductions in 10-year treasury yields. So I think you can imagine a situation quite easily where the Fed cuts and long-term borrowing costs don't fall. Another factor driving rates higher is how much countries are spending on defense. Jamie has noted previously that a more dangerous world is a more expensive world. A few months ago, NATO leaders agreed to increase their defense spending to 5 % of GDP. And Germany has said it plans to more than double its military spending.

12:48If you're thinking about where is it that the defense spending is having the biggest impact, Well, it's Europe, because that is where the change in policy on defence has necessarily had to be the most abrupt. So if we take Germany as an example, the announcement that they're going to set aside billions and billions, hundreds of billions to raise defence spending has had a pretty big impact in markets. And we've seen that 10-year yields have moved higher there as well. How important is that for the economy, the defence spending? Well, in terms of the mitigation of risks further down the line, it's crucially important because the cost of a nearer conflict in Europe would be absolutely colossal, both in human terms and in economic terms.

13:29For the economy, though, I would be quite surprised if we saw that spending translate into a big boost to growth. And there are a number of reasons for that. One is Germany imports a lot of its capital equipment. Second, if you look at European defence, it's extremely fragmented. When you increase spending and when you do R &D spending in defense in Europe, because it's so disjointed, you don't get like the big supply side benefits. There's one more surprising factor I came across. September is an historically bad month for long dated bonds. Bloomberg Economics has crunched the numbers and found that globally, maturities of over 10 years posted a median loss of 2 % in September.

14:10There is the general thought that people are returning to work after the summer and there's stuff to be done, right? Some price discovery happening over that period. I guess we will all be sat down and waiting with bated breath to see what happens to all these auctions over the coming weeks. Those upcoming auctions and what's at stake for the global economy after the break.

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16:31In Japan, yields on long-term debt have hit multi-decade highs. Solid demand at a recent sale of 10-year Japanese government bonds brought some relief, but a broader sell-off continued, heading into an auction of longer-dated bonds. Bloomberg Economics' Jamie Rush says Japan faces some unique challenges. Japan has this confluence of factors which are difficult. So you have inflation, which is sort of suddenly reawakened. The expectations for inflation have moved higher. And because of the way that the wages are negotiated in Japan, that's got an inherent degree of stickiness to it. You've got a government which is trying to win electoral support by spending more money.

17:12Again, that's something you'd suggest would push interest rates higher. And then you've got the Bank of Japan liberalizing its kind of control of the yield curve. And so clearly, if you don't have control of it, that means interest rates are going to be more exposed to market forces. And global market forces are also pushing upwards on interest rates. So I think you've got a confluence of factors that have all landed at the wrong moment, really, for holders of Japanese debt. that's why you're seeing yields go up. Bloomberg FX reporter Mia Glass is based in Tokyo, and she's covering the sell-off in JGBs and recent bond auctions.

17:46It's been a bit of a chaotic week. So Japan's bond yields actually fell a bit after the 10-year auction on Tuesday, which saw its strongest demand since 2023. And the auction did pretty well because of the high yield level on the 10-year bond, as well as the retreat and the expectations for a Bank of Japan rate hike. Tuesday's bond market surge didn't last. That relief from the 10-year auction kind of proved to be a bit short-lived because of the moves that we saw globally overnight. So there's a global bond sell-off happening with U.S. 30-year yields climbing back towards that 5 % level following the slump in European bonds.

18:21And then on Wednesday, the long end of the Japanese yield curve is also coming under further pressure following the global moves, but also because of the political landscape in Japan as well. And so that really has to do with the fact that the BOJ is paring back It's massive bond purchases now after nearly a decade of extreme monetary stimulus. So Japan's bond market is slowly becoming more of a normal market like the rest of the world. But that's also leading to the volatility and the very high yields that we're seeing today. Mia notes the rise in yields on long-dated Japanese bonds is not a good sign ahead of Thursday's 30-year auction, which global investors worldwide are going to be watching closely.

19:01The question that investors are asking all over the world is, are we really out of the woods yet when it comes to longer term bonds? And I think watching the auctions and the bond moves this week, it doesn't really seem like we are. We're still seeing steepening pressures globally, and we're still seeing the longer end really face a lot of pressure. It's also important to watch Japan because it's been spilling over a lot into global markets recently. So I think for global investors, it'll be really important to watch Japan and how the political story unfolds here as well. So is Japan a canary in a coal mine for other nations?

19:34Here's Jamie Rush again. It is important in the sense that Japan is a rather large issuer of debt. And everybody is quite jittery around 30th Horizon specifically in advanced economies. So it will be very closely watched. What is the takeaway likely to be for other countries or for other investors as they watch that auctioning? There are clearly scenarios where this could play out quite badly and we could see a lot of volatility in global markets. But again, I would just come back to the single point, which is that not that much debt as a proportion of the current issuance is issued at that maturity.

20:06Most of it is much, much shorter duration. The average maturity of debt is much, much lower. So it doesn't immediately signal that we have a funding crisis. It's just that the people who want to tie up their money for that long is smaller than it has been in the past. And a final question. We've seen the stock market on a record setting run. And so much of that is baked into these bets that companies will continue to grow, grow even more. How does this, what we're seeing in the bond market, affect the stock market? Well, I actually think it's perhaps a little bit the other way around. I mean, if you think of it as an economist, as not everyone does, of course.

20:42But these companies that are doing so well and are unveiling these new technologies, well, they are creating investment opportunities. There's capital that needs to be spent to be able to harness the benefits of these frontier technologies. You've got all these companies which will now need to retool, upgrade their tech to try and get in on this productivity, perhaps revolution. What does that do? Well, it means there's going to be more investment, more demand for capital. And that in the long run is going to push up yields as well. So it's actually they're going to be moving together if that story plays out.

21:15This is The Big Take from Bloomberg News. I'm David Gurra. To get more from The Big Take and unlimited access to all of Bloomberg.com, subscribe today at Bloomberg.com slash podcast offer. If you liked this episode, make sure to follow and review The Big Take wherever you listen to podcasts. It helps people find the show. Thanks for listening. We'll be back tomorrow.

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