Once again, the US fiscal plans are overwhelming the European market and endangering the roadmap of the European Central Bank (ECB). He Donald Trump’s tax program (aims to reduce taxes drastically without cutting spending in the same way) promises to raise global inflation (as happened in 2020 and 2021) through an increase in demand for global goods and services (oil, chips, machinery…). The markets are already discounting part of this scenario with an intense rise in American bonds and the end of the Federal Reserve’s rate cuts. And what about Europe? The markets have also begun to reduce the intensity and depth of the cascade of rate cuts that was coming (monetary divergence cannot last forever between two economies with relatively coordinated cycles), while sovereign bonds are already seeing their yields return to increase.
If at the end of last year the market discounted that the eurozone rates (the deposit rate, currently the reference) would end 2025 at 1.5% (already an expansive zone for monetary policy), now Investors believe that the price of money will bottom out at 2%an area that before Christmas was seen for the summer. That is, the cascade of rate cuts in Europe will be smaller and less intense. In a globalized economy, massive US spending can turn into inflation for the rest of the world, as happened in 2021. Fiscal deficits and American government checks raised the price of everything and collapsed global supply chains. The US suffered inflation, but also the growth (and debt) of these policies. Others, like Europe, only clearly received inflation, which had to be combated with increases in interest rates, although a good part of the initial factors that caused it came from outside.
Another clue that could be anticipating this greater ‘toughness’ of the ECB is the quotation of European banks. The banking index Stoxx Banks Europe has risen more than 10% since December to this point. It should be remembered that banks usually benefit from structurally higher interest rates, since they improve their intermediation margin. Interest rates are to banks what oil is to oil companies. Although this is just a movement (everything can change at the push of a button). post on Trump’s social networks), the truth is that interest rates may not go down as much as was initially believed.
Although members of the ECB have insisted (as they always do) that they are not the Fed nor do they follow its lead, the power of the world’s largest central bank over money markets influences the policies of the ECB and those of any central bank in the world. world. The endless list of goods and raw materials that are denominated in dollars, for example, influences inflation expectations in the rest of the world and Europe is no less. Expectations have already begun to rise, while the Euribor has slowed the declines.
From the Governing Council of the ECB itself, voices have emerged this week demanding once again the independence of the central bank with respect to the monetary policy decreed by the Fed on the other side of the Atlantic. Interventions like that of the Finn Olli Rehn This Monday they corroborate precisely that the pressure is being strong: “The ECB is not the thirteenth federal district of the Federal Reserve System“We make decisions based on our mandate, which is price stability in the euro area.”
The US moves everything
In the background, there is an implacable reality: rapid journey of the 10-year US Treasury bond towards 5%. The strong data that the American economy continues to produce, the theoretically more inflationary policies that Donald Trump brings under his arm (import tariffs and immigration restrictions, which can lead to less labor) and the perspective of large fiscal deficits to finance the enormous public spending and the aforementioned series of fiscal gifts in the form of tax cuts are increasing the required profitability of the same, bringing it closer to the peak seen in autumn 2023.
Last Friday, when the strong US employment data for December was released, the American bond climbed to around 4.8%, a level it has already reached this week. The strong job creation, which far exceeded expectations, further dimmed the prospects of interest rate cuts this year for the Federal Reserve, something immediately reflected in the bond.
A flight of T-Noteas the 10-year American bond is known, to which Europe has not been immune, as BCA Research analysts certify in a note this Monday. “The US bond market is not the only one selling off. As the US 10-year yield approaches 5%, German and especially UK yields are also rising. Unlike In the US, moves in European yields do not reflect stronger growth fundamentals or fiscal concerns. increase in the overall cost of capital caused by the turbulence of the US bond market,” explains Mathieu Savary, chief strategist for Europe at the analysis house.
Seeking to provide some context, Savary details why the US bond is the global ‘conductor’ when it comes to yields: “US yields set the global cost of capital; therefore, they are a key driver of yields. Germans (the Europeans). The US dollar is the world’s reserve currency, so it is placed in the center of the global financial system. Because of their depth and liquidity, US capital markets are the primary forum for recycling global savings and allocating capital around the world. Thus, when the cost of capital in the US rises, the opportunity cost of investing abroad increases, which raises global returns.”
The ECB will have a difficult time
For the analyst, pressure will continue for European yields until US bond markets “regain their composure.” For this it will be necessary for “Trump’s team to stop wasting and stock prices will drop dramatically,” says Savary, who believes that for Trump to reverse his tax cut proposals, the bond market “will have to demand more pain.” Meanwhile, these yields The rise will also push up those of Germany, the benchmark in the Eurozone.
However, the BCA strategist warns, the differential between the American bond and the bundle German will continue to widen. Taking into account, the analyst continues, that “the US economy has a greater capacity than that of the eurozone to support higher yields, it is likely that the current increase in global borrowing costs will affect Europe more than the US, which will favor the widening of spreads“.
Contrary to what BCA defends, the ING fixed income team believes that the ‘enemy’ is also at home. “The upward dynamics that has been observed in recent times in euro interest rates is not simply due to indirect effects from the US, the revaluation is equally homemade“, explain analysts Padhraic Garvey and Benjamin Schröder in a comment from the last few hours.
The less dovish-than-expected tone of the ECB meeting in December last year, together with the latest negative inflation data and rising energy prices, have set the stage for markets to refocus on the issue of inflation on this side of the Atlantic, justify the strategists of the ‘orange bank’. After hitting lows of around 1.95% at the beginning of December, 5-year forward inflation has risen again to 2.13% on Monday, they highlight.
“Although ECB policy remains restrictive and the prospect of a greater flexibility is still the basis, the question is How far“, round out these analysts, for whom the fact that there is a change in this upward dynamic of rates in the eurozone (and that the cascade of decreases sounds louder again) means further weakness in data macro and in the next inflation readings.
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