Eurozone Budgets Under the Spotlight
Eurozone governments have enjoyed an extended period of low interest rates. But, as indebted governments submit their budgets to the European Commission for review, they should consider the fiscal impact of a sudden reversal in bond-market sentiment, which is neither entirely rational nor sympathetic to political rhetoric.
DUBLIN – Bond markets are notoriously fickle, often driven by sentiment rather than rigorous macroeconomic analysis, and, as the 2008 global financial crisis demonstrated, they are far from infallible. They can also be particularly unreliable when assessing an economy’s long-term prospects.
Though interest rates across the European Union are at historic lows, government debt in the eurozone could come under severe pressure should bond markets re-evaluate the riskiness of sovereign borrowers. That is a consideration that should weigh heavily on indebted governments as they submit their budgets for scrutiny to the European Commission.
It is not just bond traders who can be swayed by irrational exuberance (or its opposite). The verdicts of rating agencies on asset quality can also be flawed. Too often, the raters seem content to follow rather than lead sentiment. Like the proverbial bus driver fixated on what is happening in his rear view mirror rather than watching what is in front of him, too many bond analysts focus on historical economic data as the key determinant of future performance.