Trump's tax bill is undermining the foundations of global finance

Telegraph

11 hours ago

For decades, investors have been able to rely on a simple truth: the US bond market is a safe place to put money.
When wars broke out, economies crashed or other calamities struck, money flowed into US Treasuries, as Washington's bonds are known, to protect wealth.
As a result, the US has been able to rely on a ready supply of investors willing to fund the country's ever-increasing appetite for tax cuts and public spending. Investors wanted US debt and the federal government was only too happy to provide it.
Not even half a year into Donald Trump's presidential term, however, decades of orthodoxy are being turned on their head.
'The US has generally benefited from demand for Treasuries from overseas investors. It's viewed as the global risk-free asset,' says John Stopford, a fund manager at Ninety One.
'The concern is that a lot of those beliefs or tenets about the US are being called into question, in terms of how reliable, how safe an investment are US Treasuries?'
Offshore investors, battered by volatility and bewildered by uncertainty since Trump took office, are becoming increasingly wary of the US bond market. Returns have suffered as Trump's trade policies have weakened the dollar and the president's planned debt splurge has raised questions about just how sustainable US borrowing really is.
The latest flash point is Trump's 'big, beautiful' tax and spending bill, which the Congressional Budget Office said would add $2.4 trillion (£1.8 trillion) to the deficit over the next decade.
Elon Musk might have hogged the headlines this week with his outbursts against the bill but investors and traders are airing the same concerns, especially as higher deficits mean the US treasury will be asking them to buy more and more of its bonds.
'We're seeing it in the asset management community, some insurance funds, some pension funds, and foreign investors overall as well. It's just more caution in the buying, rather than a full-blown 'sell everything',' says Gennadiy Goldberg, head of US rates strategy at TD Securities.
A crisis in the US bond market, or even just a slow ebbing of investor confidence and faith, could be the most profound and revolutionary legacy of Trump's second term.
The US market and its currency might no longer offer the safe haven against risk, nor the anchor for markets worldwide. An end of this financial exceptionalism would mean higher borrowing costs for the US and pose a challenge to the entire American economy model.
Moody's became the last major credit rating agency to strip the US of its gold-plated borrower status last month and analysts have raised the prospect of Trump facing his own ' Liz Truss moment ' as investors baulk at his spending plans.
For now, concern is centred around where all this fiscal ill-discipline will leave the US in the 2030s and beyond. So investors are shying away from longer-dated Treasuries with terms such as 10, 20 or 30 years, and parking their money in shorter-term bonds that mature in one or two years.
'I see investors who are even cautious about the five to 10-year space,' Goldberg says.
If this caution turns to panic, then a meltdown – with worldwide consequences – isn't out of the question.
'If there was a big deleveraging that happened – and there was a big source of selling, whether it's from foreign investors or hedge funds or levered investors or basis investors – it could potentially overwhelm the system,' Goldberg says.
Foreign investors are also having to contend with a big drop in the US dollar, which is reducing their returns.
'It's fine to see bond yields rise if the currency is stable or appreciating. That's not what we're seeing at the moment. We're seeing bond yields rise in the US, and actually the currency, on a broad basket, is about 10pc down from its highs last year,' says James Ringer, a Schroders fund manager.
The lack of buyers and the potential glut of bonds raises the possibility, or 'tail risk', that the market could cease to function properly.
'That would mean sellers overwhelming buyers,' says Goldberg. This could drive a sharp surge in rates and force an emergency intervention from the Federal Reserve.
'That is the risk going forward – that the system is unable to function if something goes wrong,' he adds.
At the moment, there's little prospect of a panicked sell-off – mainly because investors have so few genuine alternatives. America's star may be on the wane but it is still the brightest light in the sky.
'The US is absolutely a mass market in terms of marketable debt. The second and third closest markets are an order of magnitude smaller, so that makes it really difficult for a lot of these investors to really get away from dollars,' says Goldberg.
'There's just no place for them to go.'
But equally, with Trump at the helm, nobody is ruling anything out.
'Even if it's a tail risk or something that's unlikely, because it's there at the back of people's minds, potentially they do begin to change their behaviour,' Stopford says.
'They do begin to think, 'OK, well, I should have less exposure to the US, I should have less exposure to the dollar, I should be looking for alternatives that are safer, more reliable.'
'That's not bond vigilantes speculating. That's just people making rational decisions based on concerns about risk.'
Scott Bessent began the week by telling the world: 'The United States of America is never going to default. That is never going to happen.'
were meant to reassure. But the sheer fact that the US treasury secretary had to spell out something that has been taken for granted for decades highlights the fact that the fundamentals of the US financial system have been shaken.
Whether they go on to crumble depends on what Trump does next.