Europe's autumn budget crises threaten bond markets and reignite joint debt debate

French 10-year government bond yields have climbed to their highest level in 18 years. The borrowing premium over German bunds has returned to the peaks reached during the last French budget crisis, two years ago. French bank stocks, long considered among the most reliable holdings in European equity markets, have sold off sharply. And there is a genuine possibility that France will not pass a budget for another year.

That is the state of affairs as Europe returns from summer recess to confront a budget season made more volatile by the Iranian oil shock, the European Central Bank's rate hikes in response, and spillovers from sell-offs in US Treasury and Japanese government bond markets. The eurozone's three largest economies each carry significant political instability into the autumn, and the question of whether jointly backed euro debt can provide a structural answer is circulating again in policy circles.

France risks a year without a budget

France stands out even among its peers. The 2027 presidential election, scheduled for April, is already shaping parliamentary calculations. With a realistic prospect that either a far-right or far-left candidate could win the Elysée, the incentives for legislative compromise are weak. Both opposition blocs have reason to force a crisis rather than cooperate with the current government.

Davide Oneglia of TS Lombard sees a genuine risk that no budget agreement will be reached until this time next year. A further 0.5 percentage point increase in the French deficit would bring it close to 6 per cent of GDP, roughly the level of the United States. That comparison would once have been unthinkable for a country bound by the EU's fiscal framework.

The bond market has already registered the strain. French 10-year OAT yields have reached their highest point since 2008. The spread over German bunds, the most watched measure of French credit risk, has widened back to levels last seen at the height of the previous budget standoff. The country's major banks, which had been among the best-performing European financial stocks, have retreated as the fiscal picture darkened.

Italy and Germany compound the uncertainty

Italy has been an unlikely source of calm. Under Giorgia Meloni's premiership, Rome's budget process has been stable enough that Italian 10-year BTP yields have traded below French OATs. That inversion is historically unusual and says more about Paris's deterioration than about Rome's improvement.

The calm may not hold. Speculation is building about an Italian general election as early as April 2027, the same month France votes. Meloni faces pressure from Futuro Nazionale, a new party positioned further to the right of her coalition, which could pull her government towards more populist fiscal positions. An election campaign would freeze budget planning at precisely the moment markets need reassurance.

Germany's political weather is no clearer. Three state elections next month will, as ING's Carsten Brzeski puts it, set the political temperature in Berlin. Chancellor Friedrich Merz suffers from low approval ratings, and the far-right AfD is polling strongly in at least two of the three states holding votes. Even without a federal election, the results will constrain what Berlin can do on spending and reform.

The ECB's backstop looms over the debate

If eurozone bond markets deteriorate further, whether from domestic political dysfunction or from global sell-offs, attention will turn to the European Central Bank's Transmission Protection Instrument. The TPI was designed to prevent excessive spreads between member state bond yields that are not justified by economic fundamentals. It has never been activated.

Speculation about its use tends to surface whenever French or Italian spreads widen. The question of whether the ECB would deploy it, and under what conditions, remains one of the most sensitive in Frankfurt. The longer the political uncertainty drags on, the louder that speculation will become. The European Central Bank's press communications give no indication that TPI activation is under active discussion. But the instrument exists for moments when market stress threatens the single currency's integrity, and the current combination of fiscal slippage and political risk in the eurozone's three largest economies meets that description more closely than at any point since the tool was created.

The revived case for joint euro debt

Even if the TPI were deployed and proved effective, the deeper structural question would remain. A paper published this week on the CEPR's VoxEU platform argues that the 2024 reform of EU fiscal frameworks still fails in two respects: it provides too little fiscal flexibility during deep recessions to prevent deflationary stagnation, and it does not do enough to reassure markets about national debt sustainability.

The economists propose that "a Eurobond-financed common fiscal capacity can mitigate both tail risks. Under this proposal, stabilisation of exceptional common shocks is shifted to the euro-area level while responsibility for national debt remains firmly national." Outside severe shocks, they argue, Eurobonds could finance large European investment programmes, as joint debt has done since the pandemic-era NextGenerationEU programme.

This is not a new argument. Joint euro issuance has been proposed, debated, and rejected repeatedly over the 27 years of the single currency. The pandemic demonstrated that jointly backed debt can be raised at scale when the political will exists. The European Commission's fiscal governance framework sets the rules that national budgets must follow. The 2024 reforms were intended to make those rules more workable, but the VoxEU authors argue the changes fall short precisely when they matter most, during periods of severe economic stress.

The paradox is plain. The political disruption in Paris, Rome and Berlin creates the pressure that might make joint debt seem necessary. That same disruption makes collective agreement harder to reach. Germany and the Netherlands have resisted permanent joint borrowing for a generation. A German chancellor with low poll ratings and state election losses is less likely, not more, to concede ground on fiscal sovereignty.

Europe's billionaire count is closer to America's than assumed

The death of Klaus-Michael Kuehne on Monday at the age of 89 drew attention to a different dimension of European wealth. Kuehne, the controlling shareholder of Swiss logistics group Kuehne + Nagel, held assets worth roughly $44 billion, ranking him as the seventh-richest person in Europe on the Forbes list. His passing prompted a closer look at the numbers. Forbes counts 989 billionaires in the United States. Europe, including Britain and Switzerland alongside the EU, has 875. The gap is narrower than most observers assume.

That figure complicates the common European narrative that the continent lags far behind America in generating extreme wealth. It also raises questions about whether European tax and regulatory systems are as restrictive to wealth accumulation as is often claimed, or whether they simply produce a different composition of billionaire: less concentrated in technology platforms, more distributed across logistics, luxury goods, finance and industrial holdings.

What the wealth debate means for fiscal policy

Rebecca Christie, a senior fellow at Bruegel, addressed the policy dimension directly this month. "It seems preposterous that any individual requires as much wealth as some tycoons have amassed," she wrote. "Yet there are clear benefits to the economic dynamism that has fuelled their ascent. Policymakers now must figure out how to court them, tax them and regulate them."

That framing captures the tension running through the autumn's fiscal debates. The same governments that need to attract investment and rein in deficits are also under pressure to tax wealth more heavily and to limit the political influence that extreme wealth can buy. France's experience with wealth taxes and subsequent capital flight is a cautionary example that other capitals have studied closely.

The budget season that begins in September will reveal whether Europe's largest economies can navigate these competing pressures without further damaging their credibility in bond markets. The French deficit trajectory, the Italian electoral calendar, and the German state elections all feed directly into the spreads that matter most to the European Central Bank and to the investors who lend to eurozone governments.