Worries about high government debt loads are playing a moderate role in the rise in government bond yields this year, although this contribution has mostly shown up in the past several weeks.

We previously noted that the rise in US bond yields this year was more about artificial intelligence than worries around high government debt. AI spending is a huge boost to the demand side of the economy, pushing up interest rates.

While we’d still argue that AI is the bigger driver for the year, fiscal health concerns have been playing an increasingly important role in recent weeks.

Fiscal risk is the risk that the government cannot meet its obligations and is forced to reduce the inflation-adjusted value of its debt. The two main methods for effecting such a reduction are default and inflation. For the US, we continue to argue that inflation is the most likely manifestation of fiscal risk. And that makes elevated yields on Treasury Inflation-Protected Securities, which hedge against inflation, worth a look even if you’re worried about a debt crisis.

What should guide an investor’s next steps

Bond returns have two main components: the yield and the price change. When yields are rising, that’s negative for bond prices, which weighs on returns. But once yields have finished rising, investors should experience elevated returns, thanks to the higher yields. That would make bonds more attractive, at first glance.

There’s a catch, however. If yields have risen because risk has increased, then subsequent returns on a risk-adjusted basis may not be improved at all. They could even be worse, if markets fail to price in risk sufficiently.

So, if government bond yields are rising because the risk of governments defaulting on their debt is increasing, that’s hardly reason to jump into bonds.

On the other hand, if yields are rising merely because the AI investment boom is causing the economy to heat up and soaking up the supply of capital, that bodes much more sanguinely for bond investors. It would presage strong risk-adjusted returns for bond investors in years ahead.

Government debt burden now explains some of the rise in yields

Let’s look closer at the worries about high government debt loads and what it means for government bond yields.

Below, we plot the change in 10-year government bond yields this year versus a country’s government debt/gross domestic product as of 2025. This shows that countries with higher debt burdens have also generally had a larger increase in bond yields (a worse bond selloff) this year.

Change in Bond Yields Versus Government Debt-to-GDP

Fitting a simple linear regression to these data points, we find that every 10-percentage-point increase in a country’s government debt/GDP is associated with a 0.04 percentage-point higher increase in yields.

For instance, the United States debt/GDP is 124%. If it were instead at the extremely low level of Denmark at 27%, the increase in 10-year Treasury yields this year would have been 0.4 percentage points lower, according to this model. That is, the 10-year Treasury yield would’ve risen 0.7 points this year, instead of the 1.1 percentage points that occurred.

That’s a substantial share. It suggests that government debt concerns are contributing to the rise in bond yields this year. But at the same time, there still would’ve been a major jump in yields this year even in the complete absence of government debt concerns. Again, we’d argue that’s largely because of AI.

The bond market selloff shifted in mid-September

The correlation between yield increases and government debt burden we document above comes almost entirely from market movement since mid-September. So, when we downplayed the role of fiscal worries in the bond market selloff a month ago, we were correct at the time. But recent bond market movement is more concerning.

The chart/regression numbers above are as of Oct. 8. But if we were to turn back the clock to Sept. 15, this relationship between debt and change in yields virtually disappears. The R-squared collapses from 0.39 to 0.10, and the regression becomes statistically insignificant. By contrast, the R-squared in regressing yield movements from Sept. 15 to Oct. 8 on debt is 0.50.

What’s happened since Sept. 15? Some of the biggest increases in yields since then have come in countries with higher debt loads: the US, and especially France. The spread between France and Germany 10-year yields jumped by 0.4 percentage points from Sept. 15 to Oct. 9. Because the two countries experience similar economic conditions (and identical monetary policy under the European Central Bank), that spread is heavily influenced by perceived French fiscal risk.

It would be hard to argue that news about the fiscal situation is driving these bond yield movements. The French finance ministry revised up its projections of the 2026 deficit by 0.4% of GDP in September, a modest change. Likewise, in the US, there haven’t been huge shifts recently. Government debt loads are high and increasing, but that’s no new information.

Ultimately, however, if fears around a fiscal crisis are rising, it might not matter what triggered them. That’s because such fears can become a self-fulfilling prophecy. If worries drive bond yields higher, that drives up the government’s interest payments over time. In turn, that justifies the worries and fuels further panic, in a vicious cycle.

For US Treasuries, fiscal risk is mainly inflation risk

Rising fiscal risk is concerning. But it’s important to distinguish what a fiscal crisis would look like in different countries.

In the US, it’s very unlikely the federal government ultimately opts for default in the event of a fiscal crisis. Rather, the Federal Reserve would step in before default to shore up Treasury markets. And, given the money creation that would entail, that means that the crisis is ultimately resolved by inflating away the debt.

For France and other high-debt countries in the eurozone, the situation is different.

These countries don’t control their own currency like the US, so inflating away the debt is a much less plausible option. For these countries, default is a much more likely outcome.

The bottomline for investors

That means if you’re worried about the impact of a government debt crisis on US Treasuries, you should be thinking mainly about inflation risk. But as we argued previously, that risk can be hedged by rotating from regular US Treasuries into TIPS. The 10-year TIPS yield, at 2.9%, is at a record high since the data start in 2003 (excluding an aberrant liquidity-driven spike in November 2008).