After 20 years of leniency, markets have returned to pricing the debts of major economies

For nearly two decades, the governments of developed countries have grown accustomed to an unusual and even strange economic reality: contrary to all economic logic, sovereign debts have ballooned, but markets have barely punished them for it. The United States crossed the 100% debt-to-GDP ratio, France approached 120%, while Japan has lived for years with a debt-to-GDP ratio higher than 200%. If these numbers appeared in the balance sheets of an emerging economy, they would immediately spark a discussion about a debt crisis, default, or international bailout. However, in the developed world, they were accepted with almost indifference.

Last week, we received a reminder that this reality is not a law of nature, and as many have warned recently, it could turn around. A sharp wave of selling in long-term government bonds pushed yields in some of the world's most important economies to levels not seen in years and even decades. In the United States, the yield on 30-year bonds climbed to 5.34%, the highest since 2007. The yield on 10-year bonds approached 4.7%. In Germany, 10-year bonds reached a 15-year high, and in Japan, the 10-year yield touched 2.945%, the highest since 1996.

Markets understood well that this is not just another chapter in the global interest rate cycle. They also understood that the "event" is happening precisely at the long end of the yield curve, those with a long duration. When the two-year yield rises, it is easy to understand what the market is signaling: investors believe the central bank will keep the interest rate higher, and therefore demand higher compensation for riskier bonds. But someone buying a 30-year bond is not just betting on the next interest rate decision of central banks. They need to estimate what inflation will look like in a decade, how much debt the government will need to refinance, how many new bonds will flood the market, and who exactly will be willing to buy them. Therefore, the concept that has returned to center stage is the term premium. A brief explanation: in principle, the yield of a 10-year bond consists of two parts — the average of the short-term interest rates that investors expect to see in the coming decade, and an addition they demand to agree to lock up their money. This addition is the term premium — the return the investor demands for the risk that inflation, interest rates, debt, bond supply, or financial conditions will be very different in five or 20 years.

The reasons for the premium jump are accumulating. In the United States, government debt has crossed $40 trillion and deficits remain large; in Europe, the need to simultaneously finance aging, infrastructure, and rearmament is strengthening. Above all these, a new competitor for the capital pool has been added — technology giants, including Meta, Alphabet, and Amazon, are raising huge sums to build data centers and computing infrastructure. According to Reuters, companies related to the AI investment wave have already raised more than $220 billion this year as part of a corporate bond market that issued about $1.68 trillion by mid-August. Although entities like Goldman Sachs believe that the direct impact of AI investments on government yields is still limited, the direction is clear. There are many more entities today that want to borrow long-term, and corporate bonds in the world's hottest sector are now competing for money. At the same time, the era of quantitative easing (QE), where the central bank would easily purchase trillions of dollars of government bonds, has been replaced by a world where balance sheets are no longer expanding with the same ease.

The hottest story in the bond market comes from Japan, the largest holder of US bonds and an economy with one of the highest net savings in the world. For a whole generation, the Japanese investor had an almost built-in incentive to send money abroad, since the yield of Japanese bonds yielded almost 0% compared to about 3-4% and more in the United States. Therefore, Japanese banks, insurance companies, and funds became one of the most important sources of savings for Western capital markets. However, the equation has changed: Japan's 10-year government bonds offer almost 3% yield, and for 30 years, over 4%. As a result, Japanese asset managers are launching new products to bring the public's money home. This turn is especially significant for the United States, and therefore, for the entire market. Japan holds US bonds worth about $1.14 trillion, meaning about 12% of those in foreign hands. To move the market, it is enough for a Japanese insurance company or pension fund to decide that from now on it can receive sufficient yield at home. Returning investments from Wall Street to Tokyo should in theory require selling dollars and buying yen, which would strengthen the Japanese currency. However, a rise in yield, which can be a sign of economic and interest rate normalization, can also indicate fear of inflation and a fiscal crisis. How sensitive Washington is to what is happening could be seen last week, when the US Treasury announced it would double (at least) the volume of its buybacks of 10-30-year bonds, from $2 billion to $4 billion. The 30-year yield, which reached 5.337% the day before, immediately fell below 5.2%. It is important to be precise: this is not quantitative easing, but a move by the government, which buys back old and less liquid bonds by issuing new debt. And yet, one must remember the timing. The announcement was made the day after the 30-year yield reached a two-decade high.

Israel is not yet a victim of the bond sell-off wave. Israel also has a place in the global bond story, and it is interesting because for now, it is moving in the opposite direction. The yield on 10-year shekel bonds of the Israeli government is about 3.8%, significantly lower than the 4.6-4.7% of the US government. At the end of 2025, it was still about 4-4.1%, following the fighting in Iran and Lebanon in the first quarter. This does not, of course, mean that the market thinks Israel is safer than the United States. These are bonds in different currencies. In Israel, inflation is low, the Bank of Israel has already lowered the interest rate to 3.5% and expects a base scenario interest rate of about 3% in a year. The risk premium of the Israeli government, as measured by CDS, has dropped from 143 points two years ago to 54 points last week, a level similar to October 6, 2023. Therefore, the shekel curve reflects a completely different interest rate path than the American one. But when comparing Israel to the United States in the same currency, the picture is clearer. In the international issuance in January, the Accountant General at the Treasury raised $6 billion for five, ten, and 30 years and paid a spread of 90-125 basis points above US government bonds. Therefore, if the US Treasury 30-year yield rises, Israel's dollar borrowing cost also rises, even if the Israeli risk premium does not change by a single basis point.

Israel currently has a significant advantage. Most of its financing needs still come from the local market, so it is less dependent on the foreign investor. But it is entering the new era when the debt ratio has already climbed from about 60% of GDP before the war to about 70%, and defense expenditures have doubled to about 8%. The Bank of Israel forecasts a deficit of 4.9% of GDP this year and a debt that will remain around 69% even in 2027. And this is perhaps the most important Israeli lesson. Israel is not yet a victim of the sell-off wave in long-term bonds. Low inflation, a strong shekel, and a large local savings base give it a protective layer for now. But it is entering an era where global investors are starting to look at public debt again and ask questions that have sounded almost outdated for years — how much debt do you have, how much more will you issue, and what is the price you are willing to pay to hold it for 30 years. Moreover, this is an era where governments are especially in need of money due to the aging of the population and the jump in defense costs. At this stage, there is no buyers' strike yet, nor a debt crisis in developed countries. Certainly not a refusal to finance debt for the United States, Japan, or Europe. But the market is signaling that it simply demands more money to do so.