The bond market turned on the United States mid-way through this week.
Tariff uncertainty led to a brief loss of confidence in the US administration and the economy it’s trying to manage.
It sent US borrowing costs toward unsustainable levels.
Bond yields, again, approached alarmingly high levels overnight and into Asian trade earlier today.
It followed news that US tariffs on China were actually as high as 145 per cent.
It has global financial markets on tenterhooks.
The past week has seen some of the most violent financial market swings since the pandemic.
Months of investor greed — for want of a better word — was replaced by raw fear earlier this week.
An escalating tariff war threatened to send the United States economy, the Chinese economy, and the global economy into recession.
It saw stocks go into freefall on Wall Street several times between last Friday and Tuesday.
But US President Donald Trump appeared unfazed, insisting it’s sometimes necessary to take some “medicine” to find a better way.
Then, on Wednesday night (Australian time), it was he who took a very bitter pill, and the entire game shifted.
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So, what happens next?
To help figure that out, we need to backtrack a little.
Where to begin?
On Wednesday night (Australian time) the fallout from Trump’s trade policy hit a genuine crisis point.
The bond market sold off, pushing bond prices down, and interest rates up… sharply.
It was a crisis because, for a moment in time, the bedrock of the global financial system — the US Treasury bond market — was on the brink of collapse.
It was crashing, signalling to the global financial system, that confidence in the US’s ability to manage its economy was being seriously eroded.
“If the bond market is not functioning, then the global capital market system cannot function as the US 10-year treasury yield is the basis for the cost of capital globally,” Jamieson Coote Bonds Senior Portfolio Manager James Wilson said.
The cost of capital is essentially the price of money — obviously fundamental to the efficient operation of the global monetary system.
Then, in the middle of Wednesday night (Australian time) Trump said two words that not just relaxed the financial markets but sent them into a state of euphoria: “pause” and “deal”.
Financial markets were no longer staring into the economic abyss.
The US president had hit pause on most of his tariff plans — except the 125 per cent impost on Chinese imports.
And, crucially, he said he was prepared to deal with other countries who resisted the urge to retaliate.
‘A little bit shaken’
However, the trauma, for some market participants, had been lodged into their psyche.
“I’m actually a little bit shaken,” Westpac’s Head of Financial Markets Strategy Martin Whetton told ABC News’ The Business.
“This is quite serious and quite disruptive to financial markets and economies globally.
“What you’ve seen is an epoch change in the political and economic structure of the world.”
He likened the seismic geopolitical shift to a pivotal moment during the Cold War.
“The observation I would make from [Wednesday] is, in more than 25 years of doing this, I’ve never seen a day in the Asian session, at least like this,” he said.
“What took place, I think, is an enormous change.
“I’ve said recently to some of our interns, that, in my view, what we’ve seen in the last few months, is akin in my memory, to what I saw as a young teenager in 1989 when the [Berlin] wall came down, and my father running into the ring to say, ‘look at this, the world has changed’.”
Martin Whetton, who leads the Westpac financial markets strategy team, says Trump’s decisions undermine the financial hegemony the US has enjoyed since 1946. (ABC News: Daniel Irvine)
What happens next?
The critical question facing global financial markets, and all the US’s trading partners on Monday was: is the president open to trade deals or are his tariffs set in stone?
It seemed, on Monday, like he wouldn’t budge. Stock markets across the globe plummeted. The trade war between the US and China escalated.
The crisis point was reached on Wednesday night when what seemed like a coordinated global bond market sell-off of US Treasury bonds sent the interest rate on these bonds sky high.
This threatened both the US government’s ability to finance its operations, and the credibility of the US dollar — the effective “anchor” for the global financial system.
The Trump backdown, in the face of — frankly — global financial markets panic, has left many questioning how the next days, weeks and months will play out in international geopolitics and finance.
Grab the popcorn but be warned
Stock market veteran Marcus Padley believes the trauma of this week will leave a long-lasting malaise.
“[China is] very important to us even if the US thinks they can abuse them,” Padley said.
“It’s a significant risk/variable that needs to play out.
“We are about to find out how an adult handles a toddler… grab the popcorn but be warned — this might turn out to be a horror movie, not a Marvel.”
Westpac’s Martin Whetton believes both Trump and the US administration have lost credibility with its on-again, off-again tariff policy, and that’s going to cause ongoing global economic damage.
“US government bonds are held by every country in the world, and they’re held by every bank and financial institution because they are deemed to be what’s called golden collateral, the simple bottom line structure of financial markets,” he said.
He said he felt “jittery”.
“I genuinely think what you observed yesterday, or maybe what financial markets people observed yesterday, is the breaking of this long standing financial, almost moral, authority of the US dollar and the US government debt,” he said.
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Implications for Australian households
There are two obvious implications for Australian households. The probability of a US recession has reduced in the past 48 hours but it’s still a credible scenario.
UBS puts the percentage chance at 35 per cent. JPMorgan had said earlier in the week it was more likely than not.
The risk for Australia is that, with China’s economy still being threatened, consumer confidence already falling (Westpac Consumer Sentiment Index dropped by 6 per cent in April), and business facing extraordinary levels of uncertainty, the economy could falter.
Households would feel this in terms of rising unemployment, according to the National Australia Bank.
“We have tweaked our forecasts for [Australian economic] GDP growth and the unemployment rate,” the bank noted.
“We now see GDP growth of 2 per cent over 2025 (was around 2.25 per cent) and see the unemployment rate peaking slightly higher at around 4.4 per cent before edging back down to around 4.25 per cent at the end of 2026.
“That is, we see the support from meaningfully lower interest rates as mitigating a larger impact on both growth and inflation.”
Indeed the AMP still has a “high chance” of a super-sized 0.5 percentage point Reserve Bank interest rate cut in May.
The NAB also sees this, and quicker interest rate cuts to follow.
BetaShares is forecasting a 0.35 percentage point cut to the cash rate.
Why? Because no-one truly believes the worst of this sordid trade debacle is over.
The middle of this week saw one of those truly bizarre human experiences — relief and euphoria for a moment in time in the middle of an economic storm.
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