European government bond markets are entering a more difficult era as inflation risks, rising public debt and stronger investment elsewhere push yields higher, according to an analysis by The Economist. The pressures suggest that governments across the euro zone may have to adapt to persistently more expensive borrowing.


Investors in euro-denominated government debt already face an unusually fragmented market, with bonds issued by 21 euro-zone countries as well as the European Union. But recent turbulence has added another challenge, with government bond yields rising across major economies as investors reassess inflation, economic growth and fiscal policy.


The global sell-off has been particularly visible in Japan, where 10-year government bond yields reached 3% on September 1 for the first time in three decades. U.S. 30-year Treasury yields have remained close to their highest level in nearly two decades, while British 30-year gilts have reached levels not seen since 1998.


European yields remain below their 2008 peaks, but The Economist argues that the region faces several structural problems of its own.


The first is inflation. Unlike in the United States, where price pressures are largely associated with strong domestic demand, Europe is facing an energy shock linked to the war involving Iran. Markets now expect the European Central Bank to raise its benchmark rate to around 2.9% by mid-2027, compared with expectations of 2% before the conflict involving the United States and Israel began in late February.


Higher inflation uncertainty also makes long-term government bonds less attractive because investors demand greater compensation for the risk that future returns will be eroded by rising prices.


Fiscal policy presents another challenge. Germany has embraced debt-financed investment, while France continues to face persistent budget pressures. Higher interest rates are consequently increasing debt-servicing costs. According to Fitch estimates cited by The Economist, France could spend 6% of government revenue on interest payments in 2028, compared with 3% in 2019. Italy’s share is projected to rise from 7% to 8.8%.


Raising taxes to address those pressures is difficult, particularly because European tax burdens are already high relative to the size of their economies. Cutting public spending is equally politically challenging as populist parties gain influence across the continent.


Europe is also competing for global investment capital with the booming U.S. economy. Massive spending on artificial-intelligence infrastructure is drawing funds toward American technology companies. The largest firms are expected to spend more than $5 trillion on AI data centres between 2025 and 2030.


Those companies are increasingly turning to debt markets to finance their expansion. Goldman Sachs estimates that they could issue around $250 billion in long-term bonds this year and $400 billion in 2027. Their strong credit ratings put them in direct competition with governments for investors’ money.


Meanwhile, the European Central Bank is reducing its bond holdings, having shed around €1.2 trillion since 2022. Demand from traditional buyers such as pension funds is also weakening as investment strategies shift toward equities and other higher-return assets.


“We are in a new global macro regime,” sums up Freya Beamish of TS Lombard, a research firm.


For European governments, the implication is clear: borrowing costs may remain elevated for longer, forcing policymakers to confront the financial consequences of higher rates, persistent deficits and stronger competition for global capital.


By Sabina Mammadli