Investors in euro zone bond markets stand accused of letting “animal spirits” affect their judgment on the risk of a European debt default, creating a situation where financial markets could force weaker countries into excessive budget cutting.
A senior official at the Organization for Economic Co-operation and Development criticized the behavior of some investors that has led to sharp swings in the yields on government bonds issued by Greece, Ireland, Portugal and Spain.
Hans Blommestein, head of bond markets and public debt management at the OECD, told the Financial Times: “The psychology of the markets is very negative and not necessarily based on facts, but rather on animal instincts and spirits that trigger far greater selling in bond markets than is often justified by the data.”
“This creates a cliff effect where markets suddenly fall as investors lose confidence in hitherto safe sovereign assets. This makes it hard to assess reliably the change in sovereign risk and what direction the markets will take.”
Mr Blommestein said there was a danger that some governments might go too far with austerity measures as they sought to reassure investors that they were tackling their deficit problems. That, in turn, could jeopardize their economic recovery.
“The market suddenly perceives the debt of some sovereign is a risk, then demands much higher yields, which creates big difficulties for these countries in funding themselves,” he said.
“The markets are creating a situation where countries could be forced to retrench too far and introduce austere fiscal policies that are not good for their economies as it risks stifling growth.”
Mr Blommestein’s concern centers on Greece, Ireland, Portugal and Spain, which are introducing aggressive fiscal tightening policies.
But he said the “animal spirits” of the market could affect the world’s biggest economies, such as the US and UK, because of the vast debt levels they have taken on to rescue their banks and stimulate their economies. Bond yields in the US and UK have stabilized at record lows.
The OECD, which represents 33 mostly developed countries, is to publish data showing how sharply government bond issuance has risen. Government borrowing is projected to rise to $19,000 billion next year among OECD members, nearly twice that of 2007.