Governments in the developed world are carrying debt burdens that, outside the pandemic distortions of 2020, sit at the highest shares of GDP seen in decades in many places - in some instances the highest since World War Two. Despite resilient economic growth in recent years, the fiscal position has clearly weakened and calls for fiscal consolidation are growing louder from international institutions. Yet the political and strategic environment that has emerged - dominated by higher military spending, industrial interventions and a scramble for energy and technological sovereignty - is likely to blunt any such push for austerity.
The International Monetary Fund made the familiar argument again at its spring meetings, urging governments to cut deficits and stabilize public debt. The IMF warned that the window for an "orderly" adjustment is closing fast and that the fiscal buffers needed to stabilize debt-to-GDP ratios have largely disappeared, adding that "Credible, well-sequenced fiscal adjustment is urgently needed across all country groups." That counsel, while straightforward in technical terms, faces long odds in a world prioritizing national security and economic self-reliance.
Drivers keeping borrowing elevated
Several forces are conspiring to keep fiscal policy loose. First, geopolitical tensions and the rearmament impulse among allies mean defense budgets are on an upwards trajectory. NATO allies are planning to increase defense spending to 5% of gross domestic product by 2035. Second, governments are explicitly embracing industrial policy as a tool to secure critical technologies and domestic capacity. As a World Bank report put it, "industrial policy ... is back with a vengeance," and should be considered part of the national policy toolkit of all countries.
The scale of these interventions is significant. The IMF has estimated that China is pursuing an annual industrial policy effort worth around 4% of GDP. Japan earlier this year unveiled a historic 21 trillion-yen fiscal package. Meanwhile, in the United States the fiscal stance has been loosened further by the return of the Trump administration, whose trade and foreign policy orientation has prompted both allies and competitors to spend more to shore up resilience and autonomy.
Those policy shifts are amplified by the perceived urgency to keep pace with the artificial intelligence revolution and other rapid technological shifts, as nations seek to safeguard domestic industrial bases and supply chains.
U.S. deficits and demographic pressures
The U.S. budget picture exemplifies the tension between buoyant growth and widening fiscal gaps. The budget deficit is already running at 6% of GDP - a level many would find striking given that, according to Fed Chair nominee Kevin Warsh, the economy is close to full employment. Yet the Congressional Budget Office projects that the U.S. deficit will widen to 7% of GDP over the next decade. Add to that the burden of ageing populations across much of the developed world and the ingredients for persistent inflationary pressures and entrenched fiscal dominance are present.
Markets and the price of fiscal risk
How these fiscal dynamics are reflected in asset markets varies. BNP Paribas strategists recently described fiscal risks as "highly underpriced," suggesting that some parts of the market may not be adequately compensating investors for burgeoning government liabilities. Yet other market participants may be willing to accept those risks because loose fiscal policy can boost sectors and assets that benefit from government spending and industrial support.
Fund manager Jeroen Blokland offers a succinct way to frame that trade-off: "You buy GDP growth with debt," and debt sustainability, he argues, "hinges on low interest rates and high inflation." The logic is mechanical: if real economic growth exceeds inflation-adjusted interest rates, then current deficits and elevated public debt do not necessarily become insoluble problems. Incremental inflation can erode the real value of debt, and risk asset prices can rise in an environment of strong nominal growth.
At present, real rates in the United States are roughly 0.5%, a level the article describes as the lowest in three years, while the IMF expects real growth this year of 2.3%. Under that arithmetic, the fiscal outlook may be tolerable for investors positioning in equities and commodities, particularly energy. The same conditions, however, are unfavourable for fixed income. If higher inflation persists, bonds could endure a difficult decade of suppressed real returns.
Blokland's prescription for such an environment goes to extremes, recommending minimal exposure to cash or bonds and a tilt toward scarce assets such as gold or bitcoin. Whether investors follow such an approach depends on their assessment of how long and how high inflation will remain and how real rates evolve.
National champions and state-linked investments
Another consequence of the renewed policy focus is an increased likelihood of governments directly supporting or investing in strategic firms. The U.S. administration's involvement with Intel provides a vivid illustration. According to the account, the administration took a 10% stake in the chipmaker last August. Following that move, Intel's shares reportedly surged past the company's dotcom bubble-era peak and were up 85% in a single month, pushing the stock to trade at about 90 times forward earnings.
In many countries, taking stakes in listed companies would once have been an extreme and rare intervention. Today, such actions are part of a broader toolkit where picking winners through subsidies, direct investment or industrial strategy is becoming a normalized element of public policy. For investors and supply-chain managers, this shift changes the landscape: corporate fortunes may become more tightly coupled to government priorities, especially in sectors tied to defense, semiconductors, energy and strategic manufacturing.
Implications and closing observations
Fiscal watchdogs can still call for consolidation, but the structural drivers identified here - defence buildup, industrial policy, resource nationalism and demographic spending pressures - make a rapid and broad-based retreat from current fiscal trajectories unlikely. That reality carries varied consequences across markets: it may support equities and commodity-linked assets while posing a tougher outlook for bond returns. For policymakers and market participants, the fundamental question is whether low real rates and moderate inflation will continue to make today's elevated debt burdens manageable, or whether those same forces will erode returns in fixed income and reshape capital allocation over the coming decade.
None of these outcomes is inevitable, but the balance of incentives and strategic priorities suggests that the era of strict fiscal discipline is, at minimum, on pause.