Issue Risk: eroding fiscal space and government bond market instability

Summary

The third downside risk is that major economies keep running structural deficits despite already high public debt, while energy relief, defence spending and industrial policy add to outlays. In a high-debt, high-rate environment, interest costs are rising and the room for fiscal adjustment is shrinking. The burden now interacts with heavier bond issuance, upward pressure on long-term yields and possibly larger risk premia, turning it into a risk for financial markets as a whole. If bond markets become unstable, a loop of higher yields, heavier interest burdens and weaker financial institutions could return, and capital outflows and currency volatility could spread the shock to vulnerable emerging economies. The report cites IMF warnings that high debt and rising yields could amplify financial stress, and OECD advice that energy relief be targeted and paired with medium-term consolidation.