Fixed income experts at FTSE Russell and Franklin Templeton explain how political gridlock and fiscal policy could dampen US bonds' value for investors
US President Donald Trump’s newly passed "Big Beautiful Bill", is generating alarm across the bond market.
While the president claims the bill will strengthen the US economy, fixed income experts believe it’s a trigger for deeper fiscal stress and rising uncertainty in sovereign debt markets.
Paul Mielczarski argues that the US fiscal outlook is deteriorating faster than any other developed economy and warns that structural factors like aging demographics and low tax revenues are only compounding the problem.
In the short term, the tax cuts aimed at households and corporations will likely boost economic growth, but he warns that this comes at the cost of fiscal sustainability.
“The US economy already looks a lot less exceptional,” he said. “The bill does provide sort of a boost to the economy over the next four quarters, but it also leaves the US on an unsustainable medium fiscal term trajectory,” said Mielczarski, head of global macro strategy at Franklin Templeton’s Brandywine Global. “I would argue that the US fiscal fundamentals are probably actually the worst among developed nations,” noting a combination of soaring debt, low tax revenues, and rising entitlement spending.
The political deadlock between Democrats and Republicans, he noted, makes any meaningful fiscal reform virtually impossible, something he believes would require a politically unfeasible 3 per cent to 4 per cent of GDP adjustment.
“The fiscal bill effectively locks in very large deficits for the next five-plus years at a time where the government debt level is already very high and you're paying more and more interest. That puts you on an unsustainable debt-to-GDP trajectory, where the debt-to-GDP ratio just keeps going higher and higher. At what point does it become a major market problem?”
Meanwhile, Robin Marshall emphasized that the bond market is not just a US problem but a global one, noting that debt-to-GDP ratios have surged across developed economies since the global financial crisis, driven by back-to-back shocks: first, from the Great Financial Crisis, then the pandemic.
While these shocks required extraordinary public spending, Marshall suggests the consequences are now becoming harder to manage particularly for the US, where debt issuance has accelerated under both Republican and Democratic administrations.
And Trump’s “Big Beautiful Bill” is, in Marshall’s view, another extension of this expansionary trend, and part of a broader shift away from what he calls the “monetary-fiscal consensus assignment.”
He pointed to recent moves in long-dated bonds as evidence that investors are now demanding more term premium in response to rising inflation risks and long-term fiscal instability.
While there's no denying structural pressures, he believes “we may be stuck in a bit of a range on yields,” noting that while the era of zero rates is likely over, a return to those levels would require another financial disaster, something he sees as unlikely given how well-capitalized today’s financial system is.
One reason for his measured view is valuation. Government bonds, he argues, are increasingly attractive relative to equities. With 10- and 30-year Treasuries yielding 5 per cent or more, investors seeking stable income are finding compelling opportunities.
“Bonds have now got really cheap relative to equities on most valuation metrics,” he noted, adding a second and perhaps more significant, force limiting further yield increases is the behaviour of pension funds. Notably, defined benefit plans, many of which spent years in deficit due to ultra-low discount rates, are now in surplus as rates have risen.
And with most pensions still underexposed to government bonds, he believes this underweight positioning could trigger a wave of reallocation.
“If they want to de-risk, or indeed make a switch, it's quite attractive now to increase their holdings in Treasuries,” he said, adding this shift is already visible in global markets like the UK and in Europe. The combination of higher yields and improved funding positions is fueling growth in liability-driven investment (LDI) flows, which he sees as a powerful force supporting demand for long-dated government bonds.
Over time, Mielczarski also believes institutional investors will see upward pressure on bond yields and term premium because of fiscal deterioration, along with a mix of financial repression, which, he explained, is “trying to encourage or force US domestic institutions to hold more government bonds. We’re going to see increasing political pressure on the Fed to effectively play a greater role in financing the deficits,” he said.
The US may also face increasing demands from foreign investors for higher yields and a weaker dollar as compensation for holding Treasuries, noted Mielczarski.
Looking ahead, Mielczarski describes a US bond market caught in a tug-of-war between competing forces, with little clear direction in the near term. On one side, slowing economic growth should be bond supportive. But on the other, inflationary pressure from tariffs and worsening fiscal conditions continue to weigh heavily.
He highlighted that despite all the shocks between fiscal stimulus, tariffs, and softening growth, 10-year yields haven’t moved much, currently hovering around 4 and a half per cent – the same level they were at the beginning of the year.
Mielczarski also sees the narrative of US exceptionalism beginning to unravel, driven by both domestic policy decisions and shifting global conditions. He argues that the growth advantage the US has maintained over Europe and other developed markets is shrinking.
“This year, I actually think that the gap between the US and the rest of the world is going to be relatively narrow,” he said, attributing this to the Trump administration’s policy mix, particularly tariffs and tighter immigration, which he believes will weigh on long-term growth.
The aggressive stance on immigration, he warns, will reduce the country’s structural growth potential, while tariffs risk pushing inflation higher and growth lower. That’s why he ultimately makes the case for diversifying fixed income investments outside the US, like European bond markets and Australian and Canadian bonds.
“I actually think that the gap between us and the rest of world is going to be relatively narrow to a point where you hardly see any economic outperformance from us. The same may apply in 2026.”
“There is going to be persistent pressure for some form of fiscal consolidation, which will be a drag on economic growth going forward,” he added.
