Markets face fact central banks not stalling on rate hikes

Cantillon: Borrowing outlook for many governments is changing

It has been another nervy week on interest rate markets. Ireland's 10-year borrowing costs have now topped 1.1 per cent, having breached the 1 per cent barrier last week for the first time since 2019. Fears of higher interest rates have been stoked by comments from Fed chair Jerome Powell and senior European Central Bank figures. From thinking central banks might hold off from increasing rates because of the impact of the war on economic growth, markets are now absorbing the message that this is unlikely to be the case.

Central banks will move, unless there is a really severe hit to growth. A "deep recession" would cause the ECB to consider extending its bond-buying programme beyond this summer, hawkish ECB board member Isabel Schnabel said in an interview this week. It seems like a high bar. And once the bond-buying programme stops, it is game on for higher interest rates.

Inflation expectations

The borrowing outlook for governments, including Ireland's, is clearly changing. The question is how much farther will bond yields rise. As recently as mid-January, the National Treasury Management Agency raised 10-year borrowings at a rate of just 0.387 per cent. Raising money close to 1 per cent would still carry a low interest cost – but the risk is of inflation expectations and bond yields jolting higher.

The Government can't do anything about the global trend in bond yields – but it must maintain investor confidence in Ireland. Tánaiste Leo Varadkar said the ECB should combat inflation by stopping its bond support programme rather than pushing up official interest rates. But when the ECB steps back from the market, bond interest rates will rise and there will be a forensic focus from the markets on the finances of each country as the buyer of last resort is no longer present.

A vital job for Ireland is to keep our borrowing costs in the same ballpark as the likes of France and Belgium and to ensure the gap between Irish and German costs does not widen. As the year goes on, this will emerge as a key policy constraint.