"France’s Credit Downgrade Likely to Slow U.S. Yield Decline"

Fitch Downgrades France's Credit Rating from 'AA-' to 'A+'
A Different Situation from the 2012 Eurozone Debt Crisis
U.S. Fiscal Burden Too Heavy for Safe-Haven Demand to Shift
"U.S. Policy Rate Decline Expected to Slow Down"

The European government bond market is experiencing turbulence after the international credit rating agency Fitch downgraded France’s sovereign credit rating. Unlike in the past, there are growing expectations that demand for safe assets may not shift entirely to the United States, as the U.S. is also facing significant fiscal and Treasury supply pressures. As a result, while U.S. Treasury yields are expected to continue their downward trend, there is increasing consensus that the pace of decline will be slower.

On September 12 (local time), Fitch downgraded France’s sovereign credit rating by one notch from ‘AA-’ to ‘A+’. The credit outlook was assessed as ‘stable’.

Fitch explained that the downgrade was due to political instability and concerns over fiscal soundness, stating, “The recent collapse of the former government led by Francois Bayrou after a parliamentary vote of no confidence demonstrates the deepening division and polarization in French domestic politics.”

Following the downgrade, the yield on France’s 10-year government bonds once again exceeded 3.5%, and the euro weakened in the foreign exchange market. Yields on government bonds from other eurozone countries such as Germany and Italy also rose in tandem. The movement was significant enough to push up UK government bond yields as well, reflecting the volatility in the European government bond market.

Concerns Over National Debt and Fiscal Soundness Impact the United States as Well

Analysts suggest that the downgrade of France’s credit rating is likely to spread beyond France to other eurozone countries that use the euro. There are also concerns that it could affect other countries such as the United States and Canada.

In the global bond market, and especially in government bonds, recent trends in market interest rates have been heavily influenced by issues related to national fiscal conditions. Although most countries are simultaneously lowering the policy rates that were raised after COVID-19, the market remains highly sensitive to fiscal issues, often referred to as the burden of government bond supply and demand.

In fact, U.S. Treasury yields, which had been trending downward in the days leading up to this month’s Federal Open Market Committee (FOMC) meeting, rebounded as a result of the rise in yields triggered by the developments in France. From the perspective of national debt, fiscal soundness, and the bond market, concerns over the supply and demand of bonds have become as sensitive an issue as the central bank’s policy rate decisions.

This contrasts with 2012, when, during the eurozone debt crisis involving the so-called PIGS (Portugal, Italy, Greece, and Spain), a preference for safe assets led to a surge in demand for U.S. Treasuries and a sharp decline in yields.

"U.S. Yields Will Likely Decline Trendwise, but at a Slower Pace"

Daishin Securities believes that, in the case of the United States, the resumption of the rate-cut cycle starting with this month’s FOMC will put U.S. Treasury yields back on a stable, downward trajectory.

However, the firm also noted that the U.S. faces significant fiscal and Treasury supply burdens, making it unlikely for market yields to fall as sharply as they have in the past. Gong Dongrak, a researcher at Daishin Securities, explained, “The recent volatility and rebound in yields in other government bond markets following France’s credit rating downgrade reinforce the view that, even if U.S. Treasury yields continue their downward trend, the pace will be slower than previously seen.”