Not so scary

Reborn as bond market? No way. Look at yields

Once upon a time, politicians were afraid of fixed income investors, whose judgments limited the size of fiscal deficits. No wonder James Carville, an adviser to US President Bill Clinton, said he would like to be reincarnated as the bond market, because it could intimidate anybody. These days, he would probably choose to be reborn as something else, maybe a central banker.

Bond markets no longer punish developed governments at the faintest whiff of fiscal indiscipline, and now turn a blind eye to economic weakness which might cause budget slippage. On the contrary, French 10-year bond yields are at record lows even though Paris plans to take two extra years to comply with European deficit limits. The story is fairly similar in Italy.

In the United States and Japan, government bond yields would presumably be higher if the central banks were not trying to keep interest rates down. But no one really knows, since investors are too dependent on monetary policy to tell. There is no more talk about bond vigilantes. On the contrary, investors are so desperate for a bit of return that they downplay risks, both of a resurgence in inflation and of the inability to repay.

The market myopia is even more pronounced because central banks have hoovered up so many bonds through asset-purchase programmes. JPMorgan analysts calculate that the four leading central banks and government reserve managers own $17 trillion, or 33 per cent, of all tradable bonds.

This proportion is expected to rise to 35 per cent by the end of 2015 because of planned bond purchases by the European Central Bank and the Bank of Japan, and further reserve accumulation. Once the big commercial banks' bond holdings are taken into account, a little less than half of the theoretically tradable bonds outstanding is left for asset managers to fight over, JPMorgan estimates. Scarcity can do wonders to burnish the attraction of an asset. No wonder bond investors are behaving less like vigilantes and more like pussycats.