With the Federal Reserve, Bank of England and European Central Bank all about to make important policy decisions, global investors are pushing long-term interest rates higher as the energy shock threatens to increase inflation.
Adding to the upward pressure on rates is the prospect of increased defense spending in Europe and the U.S., which will only add to the fiscal strains in Washington and London.
Get Joe Brusuelas’s Market Minute economic commentary every morning. Subscribe now.
The 10-year and 30-year gilts in particular are being charged a higher risk premium because of greater structural economic weakness and concerns about fiscal stability in the U.K. compared to the U.S. and Germany.
In 2022, the Russian invasion of Ukraine led to a 10-week, 116 basis-point increase in the benchmark 10-year Treasury yield while the U.K. had a 54 basis-point increase in the long bond.
The cut-off of Russian oil to Europe was accompanied by a global inflation shock, with bond yields in the U.S. and U.K. surpassing 4% after decades of abnormally low inflation and interest rates.
The result was a regime change in long-term interest rates across all three economies.
In Europe, where Germany’s manufacturing economy was already struggling with the China shock, the yield on 10-year bunds moved above 2% by late 2022 and are now testing 3% as the cost of energy increases.
While Germany has considerable fiscal space, it too has observed a 30 basis-point increase in long-term rates during the first two weeks of the energy shock caused by the war.
