Throwing off the covers

Waving my children off to school last month after the summer holiday, I sensed nervousness amid their excitement - a reminder that humans seek familiarity and protection, even as we step into something new. The same can be said for economics. For years, stimulus measures have saved us from unemployment and recessions, offering reassurance but not armour.

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Now, mounting government debt and fading demographic forces are starting to expose vulnerabilities and make markets uneasy. For example, a record number of companies can now issue bonds at yields below those of the French government (a figure that has tripled this year). Confidence in our once-reliable shields is starting to fade, and investor sentiment is shifting - pushing the system to seek new solutions and funding channels to keep asset prices moving higher.

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The blanket paradox 

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Like children, adults crave safety and rely on different forms of cover to provide it. Some, like a solid roof, are functional. Others are merely comforting: we know a blanket can’t stop danger, yet we find it hard to sleep without one. Paradoxically, we even want it to be just cold enough that we need the extra cover on the bed.

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We seek the same sense of security in economics and have grown used to governments stepping in to provide it. For much of the past 200 years, economies moved in regular cycles of booms and busts. It was expected (and widely accepted) that recessions would periodically hit, clearing out weaker businesses while stronger ones survived and new companies emerged. 

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Today, that natural washout has largely disappeared, perhaps as a consequence of the vast flood of precautionary fiscal and monetary policy money. This absence of creative destruction may be one reason why market power is becoming ever more concentrated: not only in the hands of the “Magnificent Seven,” but more broadly across sectors. In the end, are higher market concentration and “big government” simply neighbours?

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This desire for protection - and for immediate intervention by governments and central banks - is also deeply reflected in society and politics. The left demands a comprehensive social safety net, a large welfare state to shield people from hardship. The right demands protection from perceived external threats, often framed as restricting migration. Both are forms of “cover” that create costs without directly generating economic output. 

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Policy to soothe and shield

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As governments shielded us from economic downturns ever faster and more forcefully, the gaps between recessions grew longer. Policymakers stimulated the economy whenever growth slowed, whether through a normal soft patch or a sudden shock.

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During the pandemic, this reflex became ingrained. Covid left a legacy in the form of a power shift: governments now seek to solve challenges through ever-higher deficits, while central banks are left merely to bridge them. Today, many voters choose politicians who promise to fight recessions with expanding deficits, policy assurances and support for monetary easing. In effect, governments - and indirectly society itself - have subordinated central banks. They retain their formal independence, but their practical role has diminished. 

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Yet many of these measures soothe markets without removing the underlying risks. Over time, this has created a deeper paradox: we no longer treat financial markets as cyclical systems, but as machines that must be kept running at all costs - even if that means suspending fiscal discipline and printing money to fill any gap.

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The machine keeps running, even as cracks appear

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Cracks are beginning to show - especially in government-linked bonds, which were once seen as the ultimate safe asset. These markets still function but their role is evolving. What used to feel like solid protection is starting to look more like a fragile band-aid. What once would have raised doubts about sovereign solvency is now met with a different response: while forced buyers exist and central banks stand ready to guarantee the rollover of both old and new debt, the system adapts rather than breaks. Yet this comes at a price. More spending means more borrowing, and as debts mount, economies risk inflation, asset bubbles, and ultimately the debasement of money itself.

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This creates what I term a “fiscal perpetuum mobile”: the system sustains growth by ensuring it continues even when it is entirely debt-financed, with new funding channels constantly emerging (such as stablecoins that create structural demand for US Treasuries). In such a world, the defining feature of fixed income - nominal repayment - stays intact, but it is accompanied by a slow erosion of fiat money’s value. That makes long-term government bonds, once prized for their promise to pay back at par, increasingly vulnerable. What used to be their greatest strength can become their greatest weakness in a world of slow internal currency depreciation. We all know - at least in theory - that “par” is not enough.

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Paradoxically, this same dynamic can also be supportive for risk markets. As long as liquidity keeps recycling, it underpins valuations of real assets and fuels demand for the so-called “debasement basket” - gold, commodities, and crypto currencies - which investors use as insurance against fiat erosion.

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Markets, and society more broadly, are becoming increasingly perplexed. The traditional reference points are losing clarity. Within public markets, assets may still sit in different baskets - equities, credit, government bonds - but they are increasingly driven by the same flows of liquidity and fiscal support.

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Diversification now comes less from owning different public assets and more from choosing a variety of market places. For instance, private markets and real assets may ultimately benefit from a more tokenised financial world - with stablecoins functioning like a money market layer within the digital realm. As private markets become more accessible, the grey zone between these and public markets is likely to widen, blurring their risk boundaries.

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This change also signals a new investment era: one defined less by returns relative to a “risk-free rate” and more by achieving returns that simply exceed inflation. Once the ultimate safe asset, government bonds are increasingly seen as risky - not because their par repayment is in doubt (central banks, as their “junior partners,” still ensure rollover), but because their purchasing power is eroding. The market has also become less anchored in the concept of risk premia itself. This is especially visible in credit markets. 

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As a fixed income specialist, I am used to thinking in spread terms. But in a “sell the government and buy the economy” world, even this anchor feels unstable. Spreads to what? To governments? Are they tight? At first glance, they seem to be. But is this really true? One could also argue that the “new” credit spread embedded in government curves has simply pulled corporate spreads tighter. In reality, it may be the base rate that has shifted. It’s always a matter of perspective. And are corporate spreads really tight if a fiscal perpetuum mobile is at work?

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This creeping sense of disorientation sets the stage for a broader reset - away from FOMO and toward what I call FOBI: the Fear of Being Included.

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FOBI: from optimism to obligation

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This creeping sense of disorientation sets the stage for a broader reset - away from FOMO and toward what I call FOBI: the Fear of Being Included. Investors can see that our economic machinery is still running: governments can still borrow, and fiscal stimulus continues to keep markets afloat. But it now runs on comfort rather than conviction. Though investors remain invested, it feels less like optimism and more like obligation, as if they are “forced to be long” by the system. This creates a widening gap between what feels like the “right” allocation - often more defensive - and the actual positions investors maintain, when they are compelled to stay invested more constructively despite the unease.

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FOBI captures this tension: not the Fear of Missing Out, but the Fear of Being Included in the next correction. And this disconnect between felt vulnerability and actual price action is mirrored on the structural side as well. Think of unemployment rates: they remain low, but are hard to celebrate, since they reflect not only economic strength but also a shrinking workforce.

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Demographic tailwinds are fading

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Spreads appear tight not only because of the perceived convergence between government and corporate credit risk, but also because unemployment remains low - itself a consequence of demographic change and persistent fiscal stimulus. It is a value transfer from public to private par excellence. As the baby-boomer generation exits the workforce, labour markets are tightening and structural growth is slowing. In other words, a large part of society is shifting from producing goods to consuming services. 

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More vacancies have emerged, which has so far helped keep unemployment low despite weak economic momentum. Low non-farm payroll (NFP) prints are therefore less concerning in themselves when it comes to headline unemployment. With the remaining workforce still engaged, a combination of resilient household earnings, steady pensioner incomes and strong corporate cash buffers is insulating the economy from the full impact of pro-inflationary pressures, which lets the gap between perception and reality grow wider.  As this divergence persists, the FOBI mindset is likely to intensify further.

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Questioning, not following

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As the old anchors loosen, hesitation is spreading. Rushing to be part of the latest trend no longer gives the same warm glow it did a few years ago, and many are starting to pause and question first. This mindset shift — born from the same FOBI that is reshaping markets — is no longer confined to investors.

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Ideologies that once appeared undoubtedly ‘good’ now feel more complex against today’s evolving geopolitical backdrop. The ethics of investing in defence have become more nuanced in light of the war in Ukraine, and rising energy prices have placed new pressure on ESG. While the push for greener energy remains strong, there is a growing recognition that it must be balanced with affordability and realism. Similar to credit spreads, society seems to be searching for a “new benchmark.”

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Perhaps this hesitation is not just about markets or politics, but about human nature itself. After a hot summer, we know how hard it is to get a good night's sleep in a stuffy room - and being Swiss, I appreciate the cool air more than most. Maybe this is where we are now: covers are still in place, but thinner than in the past. They offer comfort, not certainty - and knowing the difference is what keeps markets resilient.

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