IMAGINING A WORLD WITHOUT A SAFE ASSET / THE ECONOMIST

Debts of despair

Imagining a world without a safe asset 

No corner of finance would be left untouched

Illustration: Miguel Porlan

Around THE time The Beatles were setting the standard for pop music, a group of academics—many of them future rock stars of investment—were doing the same in finance. 

They developed the Capital Asset Pricing Model (CAPM), which estimates the return investors should expect for taking on risks.

To work out that return on risk, they realised, investors would need to know what a riskless investment earned. 

An economist named William Sharpe aimed to find a “pure interest rate”. 

Six decades later the CAPM drives trillions of dollars of investment decisions; the “Sharpe ratio”, measuring risk-adjusted performance, is still used everywhere in finance. 

The supposedly riskless asset underlying these influential calculations is almost always a Treasury security.

What happens, then, if Treasuries are no longer deemed riskless? 

A lot more than the theory underpinning portfolio construction would be in jeopardy. 

Treasury-market prices are to investors like water to a fish. 

The assets are so fundamental to global finance that it is tough to imagine a world without them. 

It would be a world with higher interest rates, greater uncertainty and more risk. 

It would be more dangerous and difficult to navigate for investors and taxpayers not just in America, but in the rest of the world, too.

The world’s safest assets encourage much risk-taking. 

If investors own an asset that they know will benefit during a sudden market spasm, a sell-off or a recession, they will be happy to take greater risk elsewhere. 

“If you don’t have a safe asset”, says Markus Brunnermeier, an economist at Princeton University, “it leads to less lending to risky projects, to a supply shock.”

What happens if Treasuries are no longer deemed riskless?

The privileges of being judged risk-free are visible across the economy. 

Banks have to hold far less capital against Treasuries than against other assets. 

The bonds can be used as collateral for loans in the enormous repo market, or to hedge risk in currencies and interest rates. 

The yields on any other dollar-denominated bond, issued by a firm, a foreign government or an American state or city are judged by their spread—how much higher they are than on Treasury bonds.

But wobbliness is beginning to show. 

Recently one of the most valuable attributes of Treasury bonds went up in smoke. 

For the first two decades of the 21st century, Treasuries tended to rally when equity markets slumped. 

Investors could protect themselves against turmoil in risky assets by holding American debt.

That negative correlation made Treasuries even better ballast than they had been in diversified portfolios—now they could, in theory, offset losses in equities. 

New investment strategies emerged. 

So-called risk-parity funds, which borrowed to raise their exposure to bonds and did well when stocks and bonds moved in opposite directions, boomed in size.

But high inflation in 2021 and 2022, then a spike in interest rates, ended that. 

Bonds and stocks sold off at the same time, burning the fingers of investors who thought they had diversified their risk (see chart).

Another new risk for Treasuries is that many market-shaking moments are coming from policymakers in Washington instead of from external economic shocks. 

Early in 2025, as word of steep new tariffs rattled markets, Treasuries offered no safe harbour: ten-year yields climbed by around half a percentage point over the course of a week, as investors rejected American assets indiscriminately. 

Gone was their “convenience yield”, the dividend of seeming safe and liquid.

Yield to no one

A diminished Treasury market would have dismal knock-on effects. 

Research published in 2024 by Jason Choi of the University of Toronto and colleagues suggests that America’s unique status as the issuer of safe assets saves the government more than half a percent of GDP each year in interest payments.

What is more, between 1994 and 2019, the rising share of Treasuries held by foreign central banks reduced America’s neutral interest rate—the rate at which the country can sustain full employment and low, stable inflation—by 0.5 percentage points, by one estimate. 

The benefits of that accrue to businesses, homeowners, states and cities across the country.

Pricing the risk of corporate bonds is getting more difficult, too. 

The spread between AAA-rated corporate bonds and Treasuries of the same maturity has dropped to just 0.34 percentage points on average since the beginning of 2024, compared with an average of 0.64 percentage points from 2010-19. 

In September two bonds issued by Microsoft offered lower yields than Treasuries of the same maturity.

Such performance is common where debt is seen as high and risky, and it is likely to become more common in America. 

JPMorgan Chase, a bank, reckons the coming increase in federal debt—from 100% to 120% of GDP by 2040—may reduce spreads with the most creditworthy firms by half a percentage point.

Some on America’s political right welcome a decline in the Treasury market. 

The Coalition for a Prosperous America, a pro-tariff lobbying group, want a “market access charge”, or a tax on many American financial assets. 

That would, they say, reduce demand for dollars, weakening the currency and making domestic manufacturing more competitive. 

In November 2024 hedge-funder Stephen Miran suggested a “user fee” be charged on foreign holdings of Treasuries; Mr Trump put him on the Fed board (he has since left).

Investors saw last year what a political attack on foreign holders of American assets might look like. 

An early version of Mr Trump’s One Big Beautiful Bill Act gave the White House the authority to withhold investment income owed to foreigners in retaliation for putatively unfair taxes on American firms overseas. 

The threat did not apply to holders of Treasury bonds specifically, but it was a worrying portent.

A self-sabotage of Treasuries might seem crazy. 

But issuers of the world’s reserve assets have changed the rules before. 

The American government devalued the dollar against gold in 1934 and 1971, and the British government did the same with sterling, in 1931 and 1949. In each case foreign bondholders were sacrificed for the sake of domestic financial security.

If the Treasury market were to lose its special status, the consequences would be more extreme for much of the rest of the world than they would be for America. 

Foreign investors have relied on Treasuries as a safe asset in their portfolios, where their alternatives were far more volatile government bonds at home. 

They have nothing to replace Treasuries with.

The interwar period holds a troubling precedent. 

Britain’s position as the world’s supplier of safe assets snapped under the fiscal pressure of the first world war and the bursts of inflation that followed. 

But the Treasury market was not yet ready to take on the role. 

The era was marked by repeated financial panics, a downturn in the global economy and a fragmenting of global trade. 

Not having a single reliably deep reserve to turn to made all of that worse. 

A world where Treasuries are no longer reliable safe assets will be a world in which there are no plausible replacements at all.

The Treasury Department provides the world with something close to a public good. 

Mercantilist politics, nervous investors and a surge in American government debt are eroding its status. 

Global finance is in danger of losing its lodestar, making the job of keeping markets and economies on course a more treacherous and difficult one at home and abroad.