The 100 billion euro (US$126 billion) rescue for Spain’s banks moves Italy to the frontline of Europe’s debt crisis, putting pressure on Italian Prime Minister Mario Monti’s unelected government to avoid succumbing to a market rout.
“The scrutiny of Italy is high and certainly will not dissipate after the deal with Spain,” Nicola Marinelli, who oversees US$153 million at Glendevon King Asset Management in London, said in an interview. “This bailout does not mean that Italy will be under attack, but it means that investors will pay attention to every bit of information before deciding to buy or to sell Italian bonds.”
Italy has more than 2 trillion euros of debt, more as a share of its economy than any advanced economy after Greece and Japan. The treasury has to sell more than 35 billion euros of bonds and bills per month — more than the annual output of each of the three smallest euro members, Cyprus, Estonia and Malta.
“The problem for Italy is that where Spain goes, there’s always the perception that Italy could follow,” Nicholas Spiro, managing director at Spiro Sovereign Strategy in London said in an interview. “’There is insufficient differentiation within the financial markets. It is clear as the light of day and has been that Spain’s fundamentals are a lot direr than Italy’s. That hasn’t stopped Italy suffering from Spanish contagion.’’
Italy is on track to bring its budget deficit within the EU limit of 3 percent of GDP this year and the country is already running a surplus before interest payments, meaning its debt will soon peak at about 120 percent of GDP. The jobless rate is less than half of Spain’s 24 percent, and Italy didn’t suffer a real-estate bust, leaving its banks healthy by southern European standards. The budget deficit at 3.9 percent of GDP last year, is less than half that of Spain.
To be sure, a total debt more than twice Spain’s gives investors pause, especially in a country where economic growth has lagged the EU average for more than a decade. The euro region’s third-biggest economy, Italy is set to contract 1.7 percent this year, more than the 1.6 percent in Spain, the Organisation for Economic Co-operation and Development estimates.
The exodus of foreign buyers has left the treasury more dependent on Italian banks, which in turn have been among the biggest borrowers in the European Central Bank’s (ECB) three-year lending operations. Italy returns to markets before Spain does, selling as much 6.5 billion euros of treasury bills tomorrow, followed by a bond auction on Thursday.
“If Italy has a problem with accessing the markets because investors lose confidence in the Italian ability to do the right thing, the ECB will be drawn into the fire,” said Thomas Mayer, an economic adviser to Deutsche Bank AG, in a telephone interview. “That could pose a potentially lethal threat to European monetary union.”
Given the size of Italy’s debt, only the ECB has the firepower to rescue the country and yet deploying that ammunition — through buying back bonds or making more long-term loans — may prove unacceptable to Germany and its allies in northern Europe, Mayer said.
There may be little Italy can do on its own to protect itself. Monti, appointed by the president to succeed former Italian prime minister Silvio Berlusconi in November last year when Italy’s 10-year yield exceeded 7 percent, has implemented 20 billion euros of austerity measures, overhauled the pensions system and revamped the county’s labor markets and service industries.