In 2005, then-US Federal Reserve Chair Ben Bernanke described the phenomenon of a ‘global savings glut’ to outline a world awash with excess capital.
High saving rates in trade surplus and oil-exporting countries were not matched with equivalent domestic investment opportunities, prompting these economies to channel excess funds into capital-importing countries – particularly the US. This created a persistent decline in real interest rates, fed global financial imbalances and helped inflate asset bubbles that would burst in the 2008 financial crisis.
Two decades on, the global economy is experiencing an inverse set of international imbalances. Isabel Schnabel, executive board member at the European Central Bank, referred to the emergence of a ‘global bond glut’: a rapid expansion in the excess stock of government bonds, which is putting persistent upward pressure on long-term real interest rates. This marks a major reversal of one of the core structural forces behind the low-rate environment of the 2010s.
Too much, too little
The 2008 financial crisis is largely to blame. Financial intermediation pivoted from lending to private sector borrowers to claims on the government, especially in the form of sovereign bonds. While banks were the protagonists in 2008, non-bank financial institutions investing in sovereign bonds have now assumed a greater role in post-2008 financial intermediation.
In the aftermath, the private sector started to pay down the debt pile they had built up before the crisis. Weak economic growth and private sector deleveraging prompted decisive stimulative actions from the public sector in advanced economies – with central banks taking the lead, followed by fiscal authorities.
Crises such as the Covid-19 pandemic, the surge in energy prices and military conflicts accelerated the scale and pace of these fiscal interventions in recent years. Notably, global public debt surpassed $100tn (93% of global gross domestic product) in 2024 and is expected to approach 100% of global GDP by 2030.
When government bonds are scarce, market participants are willing to pay a premium to hold them. When they are abundant, market participants value their qualities less, and the convenience yield falls, putting upward pressure on interest rates. The global bond glut raises the natural rate of interest higher than economic equilibrium would otherwise suggest, with major implications for monetary policy effectiveness.
Worsening the negative impact of ample supply is the fragile demand for government bonds. After the 2008 financial crisis, stringent regulations have limited the balance sheet capacity of the banking sector in absorbing government bonds. NBFIs have been gradually displacing the role of banks as the main private creditors to sovereigns – with the focus of international financial intermediation also shifting to international NBFIs.
Contrary to commercial and central banks, NBFIs are more price-sensitive, more procyclical and less willing to tie borrowers over during crises. Certain NBFIs are also subject to more fragile liquidity due to liquidity mismatches and leverage. In times of stress, NBFIs may also be faced with large-scale redemptions and other withdrawals in illiquid conditions.
Financial repression
To tame the upward pressure on real interest rates, governments could either balance budgets or generate inflation. Both are politically challenging. Historically, governments have opted for the politically safest option – namely, financial repression, describing policies that interfere with the free flow of capital to help lower the cost of government finance. Like the pandemic, the second world war provided the moral grounding for vast fiscal interventions, which governments became accustomed to even after the war had ended – as it was politically unfeasible to balance budgets.
For financial repression to operate effectively, the subject of repression must be domestic investors rather than foreign entities. The 1970 balance of payments crisis in the UK demonstrated how rapidly the loss of faith by foreign investors due to financial repression could escalate into a crisis. Economies which run persistent current account surpluses, such as Italy or Japan, have greater scope to implement financial repression, since they are not as dependent on foreign flows. However, countries dependent on foreign money to finance debt issuance will find it hard to implement such a regime.
Doom loop
Financial repression is not risk-free, and such a link inevitably raises the risk of creating a sovereign-bank doom loop. Specifically, if sovereign bonds lose value because the government’s creditworthiness is declining, the balance sheets of financial institutions suffer because they hold large amounts of domestic government bonds.
Weakened financial institutions, in turn, may force the government to bail out the financial system. Such bailouts entail expenses for the government, casting a further shadow over their finances. This vicious circle can exacerbate economic downturns or even trigger purely panic-driven crises.
In a sovereign-bank doom loop in the US, monetary authorities would be forced into a crucial trade-off between its commitment as lender of last resort to financial markets and its inflation commitment to the real economy. On one hand, high inflation requires the Fed to tighten monetary policy – raising interest rates and reducing liquidity – to restore price stability. These very actions, however, worsen the doom loop; higher interest rates depress government bond prices, which damages the balance sheets of banks heavily exposed to those bonds, and raises government borrowing costs, adding to sovereign debt stress.
On the other hand, if the Fed shifts towards loosening policy to stabilise financial markets – through rate cuts or bond purchases – it risks reigniting inflation and losing credibility as an inflation-fighting institution. At a certain point in time, the Fed would be caught between two opposing imperatives: stabilising the financial system and sovereign debt markets may undermine its inflation goals, while maintaining tight policy to combat inflation may deepen financial fragility.
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