Market playbook: Why printing money won't stop the bond rout

With government borrowing costs climbing across world markets, it is tempting to assume policymakers have some hidden fix ready to halt the move. If expensive debt is causing governments so much pain, why not simply run the printing presses, snap up all those bonds and send yields back down?

Easy as that sounds on paper, the reality is far less straightforward.

Central banks have, of course, done something along these lines in the not-too-distant past. During Covid, they bought large amounts of government paper to prop up financial markets and hold down borrowing costs. So why can't the same play be repeated?

The answer gets more complicated once today's macro environment is taken into account. Consider a simple scenario.

Suppose a government needs $100 billion to fund its expenditures. Investors, fretting over an expanding debt pile, want higher interest rates before they will lend the money. In theory, the central bank could buy those bonds itself. That extra demand would then help drive yields lower.

So where does the difficulty lie?

The crucial difference is inflation.

During the pandemic era, price pressures were mild and demand worldwide had collapsed. Central banks therefore had considerably more leeway to purchase government bonds and aid growth without immediately triggering inflation concerns.

Inflation is now the core problem, and it is getting worse. If central banks intervened to purchase government debt, they could add to price pressures instead of relieving them. The situation becomes more uncomfortable from there: once investors doubt that policymakers remain committed to fighting inflation, they are likely to ask for even richer yields as compensation for that added risk.

Put simply, the remedy could leave the original problem even more severe.

A timely illustration of the stakes is already here. The 10-year Treasury yield stands at 5.32% today, near multi-decade highs, and the 10-year French government bond yield is closing in on 5% as fiscal worries mount.

For the ECB, riding to France's rescue is not as simple as buying French government bonds. Its intervention tools exist to handle disorderly market conditions, not to let governments off the hook when it comes to fiscal discipline.

Think back to the UK's 2022 gilt crisis. The Bank of England stepped in with temporary bond purchases then to stave off financial instability. That move was never meant as a permanent answer to the state's borrowing troubles.

That, perhaps, is the outer boundary of what central banks can accomplish in a situation like the present one. Monetary policy can soothe markets and lower borrowing costs in the short run. But solving the underlying debt problem depends ultimately on credible fiscal policy, which is beyond a central bank's remit.