Massive Government Borrowing Looms Over European Markets

Germany last week surprised investors by announcing it would sell roughly €300 billion in bonds in 2023—a record and up by about €70 billion from this year. The new borrowing will help fund a €200 billion energy-relief package and additional spending on defense and climate-change projects.

The flood of new debt marks a departure for fiscally-cautious Germany and could give other eurozone countries more breathing room also to increase their debt issuance, said Piet Haines Christiansen, a fixed-income strategist at Danske Bank.

“It is a fundamental change for Germany,” said Mr. Christiansen. “It gives other eurozone countries some leeway.”

European countries have earmarked €705.5 billion to protect consumers from the rise in energy costs, according to Brussels-based think tank Bruegel.

Investors will need to soak up an additional €600 billion next year, according to Danske Bank data that includes the effect of the ECB’s plans to shrink its bond portfolio starting by around €15 billion a month. The ECB isn’t planning to sell bonds outright but instead will reinvest fewer of the proceeds from maturing bonds.

Since the ECB started its bond-buying program in 2015, it has acquired more bonds than governments have issued as it amassed a €5 trillion portfolio.

Bond supply hitting the market next year will be the largest since the ECB launched the program, and only the third time in nine years that net bond supply is positive, meaning there will be more bonds sold than the ECB is buying. (The ECB doesn’t buy bonds directly from governments. It purchases them in secondary markets.)

“It’s a completely new world,” said Mr. Christiansen. “The ECB was an enormous, one-sided buyer that will no longer be an active player to push rates lower.”

Few investors or analysts see supply worries spilling over into a full-blown eurozone debt crisis. But governments will be forced to borrow at higher interest rates, and investors could face even more volatility after the worst-ever year for the bloc’s bond markets. An index of eurozone government bonds is down 16% this year, by far the worst performance in its 37-year history, according to index provider ICE Data Services.

“I don’t think anyone expects a buyers’ strike,” said Orla Garvey, a senior fixed-income portfolio manager at

Federated Hermes.

“If there’s a huge supply, you want to be sure you’re buying them at the right price. That doesn’t need to be spun into something very disruptive for the market, but there has to be some expectation that buyers will demand more risk premium.”

The yield on Germany’s 10-year government bond has gone from negative 0.1% at the start of this year to 2.4% on Thursday. Italy’s benchmark bond yields have almost quadrupled, while Spain’s have increased nearly sixfold. Yields rise as prices fall.

Italy’s borrowing will remain in the spotlight as one of the eurozone’s most indebted countries and typically the most sensitive to market volatility. Italy this week said it planned to sell up to €320 billion worth of bonds in 2023, compared with €285 billion this year.

Italy’s bond yields have been rising at a faster pace than those of Germany, which investors watch as a gauge of eurozone distress. A 10-year Italian bond yielded 2.2 percentage points more than a similar German one this week, the largest difference since October.

Konstantin Veit, a portfolio manager at Pacific Investment Management Co., doesn’t expect major disruptions in bond markets as the increase in bond supply and the ECB’s plans to start unwinding its bond portfolio have been well-telegraphed to markets.

“What matters much more to, for example, Italy, is the political developments in Italy or on the European level and not so much the supply picture, or ECB involvement,” he said. “I tend to think that you need a surprise for this to be particularly relevant.”

The U.K. offered investors one such surprise in September, when former U.K. Prime Minister

Liz Truss

laid out plans for tax cuts and an energy package that would have required a big increase in debt. Ms. Truss’s government scrapped those tax-cut plans just weeks later after a historic selloff in U.K. government bond markets, before she announced her resignation in October.

Even without Ms. Truss’s tax cuts, the U.K. is expected to issue £180 billion, equivalent to around $217 billion, in new bonds in its fiscal year starting in April, up from £90 billion this year according to data from

JPMorgan Chase

& Co. That includes the effect of bond redemptions and the Bank of England’s bond-selling plans.

“That supply worries me, and that’s why I’m buying U.S. Treasurys,” said

David Coombs,

head of multiasset investments at the U.K. fund manager

Rathbones.

The yield on a 10-year U.S. Treasury note was at 3.667% on Thursday. Similar U.K. bonds yield around 3.592%.

“I’m not being adequately compensated for the risk of lending to the U.K. government,” Mr. Coombs said.

Write to Chelsey Dulaney at chelsey.dulaney@wsj.com

Corrections & Amplifications
The U.K. is expected to issue £180 billion, equivalent to around $217 billion, in new bonds in its fiscal year starting in April. An earlier version of this article incorrectly said  it was equivalent to around $145 billion. (Corrected on Dec. 23)