Bond Market Flexes Its Muscles Amid Global Debt Crisis

The global bond market is grabbing headlines due to soaring world debt and increasing tensions in Iran and Ukraine. With a size of around US$160 trillion, it's the largest financial market in the world, surpassing all listed sharemarkets combined. The bond market affects various aspects of our economy, including mortgages, superannuation, shares, property, the Australian dollar, and taxes.

A bond is essentially an IOU from a government or corporation, promising investors a capital sum at some future date along with interest in between. Two Australian Government bonds serve as examples: one pays 1% and matures in November 2031, while the other pays 5% and matures in June 2036.

When market interest rates rise, the price of an existing bond falls until its return becomes competitive. Currently, investors are demanding more to lend governments money, which is reflected in rising global public debt heading towards 100% of world GDP by 2029. Governments can't completely control the bond market; if investors believe a government is borrowing too much or allowing inflation to get out of control, they can refuse to buy its bonds at existing prices.

US Treasury Secretary Scott Bessent recently stated, 'I am the house now... And you can bet against me if you want.' However, Bessent should understand the danger of challenging the bond market. In 1992, his former boss Stanley Druckenmiller warned that governments ultimately lose when taking on markets.

As the Reserve Bank sets the cash rate, it doesn't dictate long-term interest rates, which are influenced by financial markets and reflect inflation, economic growth, expectations about future Reserve Bank decisions, and international events. Homeowners should take notice, as variable mortgage rates are heavily influenced by the cash rate but can also be affected by wholesale funding costs and fixed-rate loans tied to bond markets.