On March 5, 2025, the German 10-year Bund yield increased by an astounding 30 basis points. This was its biggest jump since the fall of the Berlin Wall. The jump has reverberated across the Eurozone bond markets. This change has very important consequences both for the fiscal policies of many countries and for what investors do and don’t do. Friedrich Merz of the Christian Democratic Union (CDU) recently proposed some major reforms to Germany’s financial legislation. To announce these reforms, he allied himself with leaders of the sister party (CSU) and coalition partner party (SPD) to show them off.
On March 4, it was announced that these same officials would seek to reform the debt brake. In addition, they will exempt defense spending above 1 percent of GDP from this constraint and set up an infrastructure investment fund worth EUR 500 billion. These measures are intended to boost Germany’s economy. They have had an outsized effect on bond yields throughout Europe, showing just how tight the linkage is between the German market and that of its Eurozone peers.
Offset Analysis of the current situation suggests that the regression beta for all Eurozone countries is near one. This implies 100 percent transmission of changes in Bund yields across these countries. From the end of 2021, the beta has undergone a structural rise, evidenced by the recent dramatic narrowing of dispersion within country betas. This new trend further illustrates the close linkage between the fiscal fortunes of these countries. Their economies are more sensitive to changes in German yields.
The jump in Bund yields has sparked a significant portfolio rebalancing among yield-targeting investors. German long-term rates now look very appealing. Consequently, investors are increasing their underweights to higher-yielding markets in order to re-position their portfolios for this new reality. As a result, the consequences for other countries have been especially stark. The change in Bund yields drove everything, saving Italian yields 83% of their anticipated movement. In the same vein, the effect on Spanish yields was as high as 84%, per our regression analysis.
The spillover effects from this historic jump extend beyond direct bond market impacts. Though based on model simulations, this increase in Bund yields is expected to increase output in Germany by almost 1.5%. The effect on the rest of the Eurozone, while positive, is smaller—less than 0.1%. This gap points to the unequal benefits that the member states have enjoyed when reacting to German fiscal austerity.
According to Peterson Institute for International Economics, the increase in Bund yields will lead to significant adverse financial spillovers, such as increased borrowing costs for other countries. There may be beneficial impacts that balance out these burdens. New opportunities to increase trade with Germany would likely open up after the increased fiscal stimulus enabled by the new reform measures takes effect. This simultaneous positive and negative effect highlights an intricate connection between yield variability and economic success throughout Europe.