Warsh's Jackson Hole Speech Highlights Concerns Over Sovereign Debt and AI

Kevin Warsh's speech at Jackson Hole highlighted concerns over inflation and fiscal risk. While his comments on inflation were widely reported, his remarks on 'trends matter most' received less attention. Deutsche Bank argues that this phrase may also apply to the Fed's decision-making around sovereign debt across the short, medium, and long term.

The trend in US sovereign debt is a critical issue, with Treasury Secretary Scott Bessent previously stating he wants to target the 40-year bull market in Treasuries. The current Treasury buyback program matters, but fiscal credibility remains a concern. When investors assess fiscal debt against other assets and themes, they see considerable risk and relatively little opportunity.

Deutsche Bank's dbDataInsights survey found that people in the US and UK see more opportunity in equities than in bonds. In periods of uncertainty, 28% of respondents would buy stocks in the US, compared to 24% who would buy bonds. This is a reversal of the old relationship, as bonds were meant to provide protection during market downturns.

The sharp bond selloff over the past four years has shaped investor views on fiscal debt. Shocks are becoming more frequent, with Deutsche Bank calculating that the number of interest rate spike events per month has risen 51% since 2022. Sovereign debt is the most concerning megatrend, with the bank's sovereign deficits indicator deteriorating for three decades.

Deutsche Bank believes AI could prove more consequential than the internet boom of the 1990s, potentially leading to a significant and sustained rise in economy-wide productivity. However, the capital intensity question matters most for sovereign debt, as a capital-hungry AI buildout could compete with government borrowing for savings.