Back in 2012 I said in relation to increasingly indebted governments that “the authorities can buy time. But if they don’t come up with solutions, eventually the electorate will take charge”. I was chastised by one long term reader for talking about politics. Yet politics and economies and financial markets are inexorably entwined.
For long periods politics can be a relative sideshow, but for years on end politics can be an uncomfortably dominant factor. Trump in the White House is the obvious case in point, and the US electorate have an opportunity to take charge in the November Mid Term elections.
The cost of living is the big swing factor, and ironically it is the most vehement Trump supporters who are suffering most. There are only two things that Trump can do to get inflation down between now and November. Cancel tariffs and get out of Iran. He is not likely to do either, because he’d look stupid, and likely still lose the Mid Terms, at least one half of Congress. Grid lock is the most likely outcome (see explainer at end* under my signature) and the price pressure on ordinary Americans will likely persist.
The latter will put more pressure on US government bonds (Treasuries). If the outlook is for more inflation, yields on those bonds will go higher, as will the cost of mortgages and the US government's already uncomfortable interest rate bill on its Treasury debt e.g. it is already somewhat bigger than the US government's spending on its gargantuan military. It’s a vicious circle unless spending can be got under control – and there is no sign of that (a prickly problem shared with the UK and most of the developed world).
As its debt pile gets bigger and bigger, the US doesn’t just need a reliable cohort of buyers of its newly minted Treasuries, it also requires that there is no forced selling of existing Treasuries, which would also push prices down (and the yield up). Such a forced seller was Japan.
Japan desperately needs to get the yen lower, to reduce their own inflationary pressures, and the easiest way to do this was to sell some of their US Treasuries. This matters for the US, because Japan is the biggest foreign owner of US Treasuries, and their selling would push the yield on US Treasuries up (as prices fell), putting more pressure on US inflation. It’s a bit convoluted, and for now it suffices to say that the US had to step in and help Japan to the tune of $85 billion in Yen purchases. Such intervention seldom works. Raw nerves are being exposed within global financial markets.
This also matters for the vulnerable US stock market. If yields on “safe” US guvvies keep going up, they become an increasingly attractive option for those wishing to lock-in profits from a (uniquely?) over-valued stock market. This was certainly the case in 1987, but there is a broader point…
Stock market bubbles, such as prevail today in the US, tend to thrive on cheap money. Rising interest rates (whether evident in Treasury yields, base interest rates, or corporate bonds) do not necessarily burst bubbles immediately, but they steadily remove a significant factor that allowed them to inflate. Rates rising are not the “trigger”, but rather an essential component of increasing fragility until the “pop”, which might be caused by any short term trigger, unknowable beyond speculation.
Looking at a chart for the S&P 500, I can see the outline of a top forming in the short term, but taking a longer view the picture is a bit blurred, notwithstanding the stark numbers on the vulnerability. More a case of keeping the guard up rather than running for the exit. Over the week, Japan leads the winners, up nearly 5%. The S&P gained a little over 1%, and most other markets, including the UK, were barely changed. Brazil was the obvious laggard, down nearly 5%.
Gold had a better week, notably some of the funds focussed on gold miners. But sentiment for gold is still too positive to indicate that the price is near a significant bottom and buying opportunity.
That’s all from a steamy Chislehurst for this week. Next week I will be in Dublin, where it will be raining, and I will leave you in the hands of my team mates.
* Mid Terms Explainer - why they matter
These are the elections held halfway through a US president’s four-year term. Donald Trump is not on the ballot on 3 November 2026, but in practical terms the election is partly a referendum on his presidency.
The US Congress is made up of two chambers: the House of Representatives and the Senate. At the midterms, Americans elect all 435 members of the House and roughly one-third of the 100 Senators. Major new laws generally need to pass both the House and the Senate before reaching the President. The Senate also has some important powers of its own e.g. confirming many of the President's senior appointments, including federal judges and Supreme Court justices.
Losing the House would make it much harder for Trump to pass legislation; losing the Senate as well would also restrict his ability to shape the courts and fill important positions across government.
This means that the midterms will determine how much freedom Trump has during the final two years of his presidency.
There are three broad outcomes worth watching:
1. Democrats take the House, but Republicans keep the Senate.
This is perhaps the easiest scenario to envisage, as the Democrats need only a small net gain to capture the House.
For Trump, this would mean gridlock. His ability to pass new legislation would be sharply reduced and a Democratic House could launch investigations, and make life considerably more uncomfortable for his administration (and his family!).
2. Republicans retain both House and Senate.
This would be a significant victory for Trump, giving him the strongest possible platform for the remainder of his presidency.
3. Democrats win both.
This would represent the clearest rejection of Trump and would dramatically change his final two years. Democrats could block most legislation, launch investigations and, crucially, use control of the Senate to obstruct many presidential appointments and judicial nominations.
Trump would still be President and retain substantial executive authority, particularly over foreign affairs and areas where existing law gives the presidency discretion. But domestically, Trump would be shackled.