The other day, President Trump said something that would have been terrifying if it wasn’t just one of the 15 mad things he’d said that week.
Asked by a reporter if they were planning to intervene in the bond market, he said:
“The ultimate intervention is our military. And if we have to use that, we will.”
In other words: we can force people to finance our debt if we need to. Which may be true, but isn’t all that reassuring for those of us who are affected by whether governments can keep meeting their commitments – which is, at the last count, everyone.
So in this article I’ll explain:
- What’s happening, and how we got here
- The inevitable actions governments will need to take to avoid a full-blown crisis
- What that means for your own investments
The one inescapable fact
Trump’s statement was at the extreme-and-not-going-to-happen end, but there’s something important underneath. It exposes that everything you see in the financial news is downstream of one uncomfortable, inescapable fact: governments are locked into spending more than taxes bring in. Every year, they have to borrow more money – and nothing is going to change it.
Can they spend less? No, because it’s politically toxic. In the UK, to make a meaningful dent you need to look at pensioners, benefits or the NHS. Would YOU go near those live wires if you needed to get reelected in a few years’ time?
Can they tax more? Well, not in the cost-free “the rich will pay” sense. Even the most ambitious projections of what could be generated from higher wealth taxes, capital gains taxes and inheritance taxes don’t come close to balancing the books.
So to close the gap, they need to tax everyone more – that is, broaden the tax base. Again, not popular – and the government has already ruled this out through its increasingly tortured definition of “working people”.
In short: the UK, US and many other countries are structurally, permanently in the red, and no amount of tinkering around the edges will help. They need to do the painful thing, and they won’t. So every year, they’ll borrow more.
When lenders nope-out
That borrowing takes place through issuing bonds – that is, getting lenders to give them money by promising to repay them with interest.
Andy Burnham infamously said “we’ve got to get beyond this thing of being in hock to the bond market” – which, in a field packed with stiff competition, has got to be one of the daftest things a politician has said in recent years. If you’re in a position where you have no choice but to borrow money every year… well, how lenders feel about lending to you is pretty damn important.
And the current problem for governments is that the price being demanded by the bond market is rising. There are countless reasons for this, but the big one is the simplest: supply and demand. Governments need to issue a lot of bonds, and there are increasingly fewer people interested in buying them.
Why less interest in buying? Again, many reasons. One is more competition: giant tech companies are issuing their own bonds in huge quantities to fuel their AI ambitions, which is giving buyers more choice. In the UK, defined benefit pension funds – traditionally a big buyer – are shrinking as their members age and start drawing down. In the US, the likes of China and Japan – huge buyers of American debt – have their own reasons for pulling back.
You don’t need too advanced an understanding of supply and demand to see why this is a problem for governments. If you’re issuing ever more supply into a market that’s ever less interested, you’d expect that you’d need to offer a higher rate of interest to entice enough buyers. And that’s exactly what’s happening: borrowing costs in the US and UK are going up, and up, and up.
This is where things get even nastier, because it affects the price of not just new borrowing, but money that they’ve borrowed in the past.
Every so often, past borrowing comes due for repayment – which they can’t do, so they need to repay it with newly borrowed money. That money is more expensive, so even if they never borrowed another penny, the cost of the debt they’ve already accumulated keeps going up.
Result: The UK currently spends roughly 10% of all tax revenue on paying debt interest. That’s up from 4-5% throughout the late 2010s.
If debt interest were a government department, it would be the third largest – behind only health and pensions, and ahead of education, defence, policing and justice, and… well everything else.
Once you understand this, you have everything you need to understand what’s happening now – and what’s going to happen in the future.
When things get weird
If you leave the market to its own devices, borrowing costs could just keep on rising: there are fewer buyers, and governments have no choice but to keep on being issuers.
But governments aren’t going to just sit back and accept the price the market is demanding. They can’t have the cost of debt absorbing an ever-greater share of revenues – which means they need to interfere in the market.
This is why when the going gets tough, we see increasingly weird things going on. Last month, for example, the US got involved in trying to prop up the value of the Japanese yen. This wasn’t just to be neighbourly: Japan is the biggest overseas holder of short-dated US government bonds (known as Treasuries).
If Japan’s currency weakens, their central bank might need to sell Treasuries in order to buy back their own currency. A big seller in the market is the last thing the US needs – so it suits them to help their “customer” out and come to the rescue.
It goes further: if there aren’t enough buyers in the market, how about becoming a buyer yourself? The US treasury is attempting to correct the supply/demand imbalance for its long-term debt by buying up $4bn per month itself – and issuing short-term debt to fund it.
If none of this quite makes sense to you, don’t worry – it doesn’t make sense. These are just some of the weird things that happen when you’re stuck in an unsustainable situation and you need to sustain it for as long as you can.
And worse, this is all happening in the US – which has the benefit of being the world’s reserve currency. There are countless institutions that need to hold dollars, so it makes sense to buy their debt. For a country like the UK – where nobody particularly needs to buy its bonds if the offer isn’t attractive – there are even fewer options.
That explains all today’s shenanigans. But where is all this going to lead us in the future?
The happy path
To pull back briefly from all the doom and gloom, it’s worth mentioning that there is a potential happy path out of this.
The key thing to understand is that it’s not the absolute amount of pounds (or dollars) owed that’s the problem, but the amount owed relative to the size of the economy.
It’s like two people owing £10,000. One earns a million pounds per year, so the debt is 1% of their earnings and very much not a big deal. The other earns £20,000, so the debt is 50% of their earnings and the lender can rightly feel a bit twitchy.
But even if that second person didn’t pay off anything at all and even borrowed £1,000 more, as long as they also increased their income from £20,000 to £30,000 they’d be in a stronger financial position.
It’s the same with countries. The way of measuring income at the national level is GDP – so a debt-to-GDP ratio that’s high and growing means the problem is getting bigger. One that’s low or shrinking means the problem is getting smaller.
As the government can’t reduce the ratio by repaying the debt – and actually has to borrow more – the only other way of making the problem less urgent is to grow the economy faster than they’re growing the debt.
There are two ways to grow the economy.
The good way to increase productivity. Productivity growth means workers produce more, which increases GDP. You can also collect more taxes from them, which reduces the need for more borrowing. Heck, if it goes well enough you could even make a dent in the pile you’ve already built up.
On current numbers, the UK would need a productivity growth rate of 2-2.5% to have a chance of growing its way out of trouble. That’s 4-5 times the growth rate we’re achieving now, but it’s not that much more than we were achieving between 1997 and 2007 – so it is possible.
The problem is that we’re not starting from the 1997 position: growth is structurally harder, and you need a vast swathe of things to change… many of which will be unpopular, and many of which will involve spending money.
Borrowing money to invest in infrastructure, training and other productivity-boosting measures wouldn’t be a bad idea. The problem is the government is already borrowing so much money for things that don’t boost productivity (just keep the lights on and honour past promises) that there’s no room left for it.
If you don’t get a productivity miracle, there is that other way to grow GDP faster than the debt… and it involves rigging the market in your favour.
A step-by-step guide to rigging the bond market
If you’re going to take drastic action to solve the debt problem through jiggery-pokery rather than growth, there are a few measures you need to put in place first.
First, in the absence of natural demand for government debt, create your own demand.
We’ve seen this before at times of crisis. We first learned the term “Quantitative Easing” in 2009, when the Bank of England printed money to buy government bonds. It sounds crazy – but it happened, and then it happened again when the next crisis came along with Covid in 2020. By the end of those crises, the Bank of England owned a third of all government debt.
Then in 2022, another rupture: the bond market seized up and there weren’t enough buyers, so the Bank of England stepped in again.
The pattern is: something that starts out as an extreme crisis measure starts happening progressively more often, until it’s just part of everyday operations. The QE following the financial crisis was supposed to be temporary, but the Bank of England is still trying and failing to unwind it now: it’s recently had to stop selling its bonds back into the market, because it was adding to the troublesome supply-demand imbalance.
If that’s not enough, then comes the next step: create a forced market of buyers. One way of doing this is to instruct banks, pension funds and insurers to hold a higher proportion of bonds as “liquidity reserves”. As demand-boosting measures go, forcing customers to buy your product is a pretty good one.
Locking in demand by keeping your market captive is a good one too – so the government could prevent people from taking money out of the UK to invest in more attractive assets overseas. If that sounds too dramatic… well, it’s the real situation we had from 1939 to 1979 – an “emergency wartime measure” that lasted for 40 years.
Inflating your way out of trouble
Then comes the final step. With a forced, captive market in place, you can do pretty much whatever you like – which sets the stage for inflating your way out of trouble.
As we saw earlier, you need GDP to be growing faster than the debt. Growing GDP through real productivity growth is ideal… but mathematically, growing it through inflation works just as well.
Low interest rates encourage more borrowing – and when banks make loans, they create new money in the borrower’s account. That gives people and businesses more money to spend. If spending grows faster than the economy’s ability to produce things, prices rise.
Normally, the Bank of England would raise rates to slow that borrowing and spending down. But when keeping government debt affordable becomes the priority, there’s a powerful incentive to let inflation run. And those captive lenders have to keep lending, even as the money they’ll get back buys less and less.
So the move is: hold interest rates low, and allow inflation to run higher. This lifts the value of everything produced in the country, and leaves the debt static – reducing it as a percentage.
As an example: the current UK national debt is around £3 trillion. That’s getting on for 100% of GDP. Neither of those numbers sounds good.
If you could instantly double the price of everything in the country – so GDP doubled – you’d still owe £3 trillion. But it would now only be 50% of GDP, and everyone would feel a lot better about things.
Doubling is of course too dramatic, so the trick is to do it slowly enough that nobody gets too upset about it. Again, if this sounds far-fetched or conspiratorial, it’s exactly what happened after WW2.
The UK came out of the war with debts of 250% of GDP. By the 1970s, the ratio was down to 50% of GDP. It certainly helped that the UK was achieving genuine growth and also ending up with a budget surplus for most of this time, so it wasn’t adding to the pile – but inflation running at an average 4% for 25 years did a lot of the heavy-lifting too.
In the UK there are a couple of obstacles to this playbook being repeated, neither of them enough (in my opinion) to prevent it – because, again, it’s the only thing that can happen.
One challenge is that a globally high proportion of the UK government’s bonds are inflation-linked, so higher inflation adds to borrowing costs too – but the Bank of England is already working to change the mix so this reduces over time.
The other is that whatever the government wants, the Bank of England is independent – if it wants to set interest rates higher, it can do. I won’t go off on a big one about the illusion of Bank independence now, but I’ll just say – put fiscal and monetary policy on a collision course, and let’s see just how independent it is.
What can you do about this?
Investing in the knowledge that we’re going down this path is known as “the debasement trade”: effectively, positioning yourself to benefit (or at least suffer as little as possible) from the inevitable inflation that’s to come.
As an investor, this logically leads to four main ideas:
To avoid being punished: Minimise cash and fixed income
As a rule I’m unfashionably pro-cash: it gives optionality, it’s psychologically helpful, and you need your emergency fund of course.
But it’s a near certainty that you’ll end up losing purchasing power every year, given the regime we’re moving into. And if you hold bonds or anything that pays you a fixed income, that income is going to have less purchasing power every year too.
For offence: Hold property with mortgages
Unlike bond income, rental income from residential property rises in line with earnings – which in turn tend to more or less track inflation.
So your income stream is protected against inflation – and at the same time, the real value of your debt is being eroded. By being a borrower, you’re putting yourself on the same side as the government, and will benefit from the moves they pull to handle their own borrowing.
The rub with mortgages in the UK is you can’t lock in for more than 5 years, so your debt is annoyingly short-term – but as borrowing costs are held down, all durations should benefit.
For defence: Hold gold
The purest expression of the debasement trade is holding gold. Gold’s supply is relatively fixed (it grows at about 2% per year and there’s nothing you can do to speed it up), meaning that it should hold its value relative to the pound or the dollar.
We’ve already seen gold respond to inflation fears: it went on a massive bull run from around 2022, as countries moved ever faster down the inevitable debasement path in the wake of Covid.
The debasement trade went out of fashion in 2026, as the war in Iran among other things meant that markets came to believe higher rates were here for longer. But now it’s back: prompted in part by the weird central bank actions we covered earlier, gold and bitcoin recently had their best week for years.
For upside: Hold Bitcoin
Speaking of Bitcoin, it’s nowhere near as established as gold but the logic is the same: the supply is fixed, so it should hold its value compared to currencies that are constantly expanding.
Gold has thousands of years of history as a store of value. Bitcoin is still earning that status. If more people and institutions come to see it as somewhere to preserve their wealth, that growing demand would be chasing a tightly limited supply – giving its price room to rise substantially.
That’s why I put it in the “upside” category. You’re betting on wider acceptance, with all the uncertainty and stomach-churning price swings that come with it.
Bitcoin had been in the doldrums for a couple of years, but again recent events have woken it up.
Don’t get distracted by short-term noise
The most important point in all this is that the price of assets will swing back and forth. An AI boom, a US election… there will be times when day-to-day events and month-to-month themes make markets worry more or less about debasement.
But unless you’re attempting to trade these short-term movements, you can ignore them – because (excepting a miracle productivity boom) the path from here is guaranteed.
The mistake some investors make is to see this path and believe it will be a fast slide from here into governments declaring bankruptcy and defaulting on their debts. Those investors sell everything, sit on a pile of cash and gold, and wait for the collapse.
The problem is… they could be waiting for a long time. Nobody knows how long it will take, but we’re probably nearer the end of the beginning than the beginning of the end. As we’ve seen, central banks have a lot more tricks up their sleeve before they’re forced to do something as dramatic as admit they can’t pay up.
And for every month that you’re holding cash and waiting, you’re missing out on income, growth, and the benefits of inflation eroding your debt.
Remember the tax the government won’t touch – the broad one, on everyone, that would balance the books? It’s coming anyway, but it’ll take the form of 4% inflation for 25 years rather than a line in the Budget.
You can’t vote against it (because no-one will be asked), but you can position yourself to benefit rather than suffer – and having read this far, you no longer have the excuse of not knowing.