Italy's debt woes fuel new fears
Italy threatens to become a new and more destructive force in Europe’s widening debt crisis, even as fears of a Greek default escalate.
While its bonds are not at the distressed levels seen in other ailing European economies, cash-strapped Rome is still being forced to pay more to borrow, and is reported to be courting China to help the country through its troubles.
Italy has always been part of the trauma in the 17-member euro zone, but not to the extent of Greece, Portugal or Ireland. Mounting troubles could signal a new, more ominous phase of the monetary union’s crisis, and, indeed, are helping to pressure the shares of major French banks.
Euro-related fears pulled down many world markets Monday as French bank stocks sank and investors worried that the worst is in store for Greece. In France, the CAC 40 shed more than 4 per cent, and Germany’s DAX almost 2.3 per cent. Toronto’s benchmark S&P/TSX composite index was pulled along, losing 1.9 per cent as gold prices tumbled. The reports of Italy asking China to buy its bonds, though, helped the Dow Jones industrial average and S&P 500 recover their losses earlier in the day.
Italy, the euro zone’s third-largest economy, is struggling with €1.6-trillion ($2.17-trillion) of wilting debt. It is poised to launch a €54-billion austerity package aimed at balancing its budget by 2013, but investors do not believe the effort is robust enough – given the enormous debt load, flat growth and uncompetitive economy – to get the job done. Soaring Italian yields reflect the fears of investors that Italy could make Greece look like a minor player in the debt crisis.
That played into Monday’s rout of French bank stocks, which were also hammered on speculation that Moody’s Investors Service will downgrade the ratings of France’s biggest banks as early as this week. Of the €626-billion owned by Italy to banks in 24 countries at the end of 2010, just under half was owed to French banks, according to the Bank of International Settlements. That makes Italy a rising threat.
“For the German and French banks, the worry could be over Italy’s debt, which represents the lion’s share of their [sovereign debt] holdings,” said Mike Lenhoff, chief strategist in London for investment manager Brewin Dolphin.
“Given that the renewal of the European Central Bank’s buying program was aimed at Italy, the protest resignation by Stark probably focuses attention on Italy and those most exposed to its debt.”
Mr. Lenhoff was referring to Friday’s resignation of Germany’s Juergen Stark from the ECB’s executive board. While he left for “personal reasons,” it is widely known that he opposed the bank’s accelerating purchases of the sovereign bonds of Greece, Italy, Spain, Portugal and Ireland – the countries at the heart of the European debt crisis.
A Greek default, he added, is probably “baked into the shares” of the euro zone banks. (French banks also have the biggest relative exposure to Greece.)
Shares in the top French banks – Société Générale SA, BNP Paribas SA and Crédit Agricole SA – fell by 10 per cent or more on Monday. BNP suffered the worst damage, with a 12.4-per-cent drop, taking its six-month loss to more than 50 per cent. SocGen has lost 67 per cent over the same period while Crédit Agricole is down 56 per cent.
September has not been kind to the other euro zone banks. The FTSE Eurofirst bank index is now only about 10 per cent above the low reached after the collapse of Lehman Brothers in 2008, which hit the global banking industry. European bank shares have lost about a third of their value in the last two months alone.
Italy’s debt auction succeeded Monday, but the Treasury has to pay a fat price to get the bonds out the door. Italy sold 12-month bills at a yield of 5.15 per cent, up from the 2.96 per cent a month earlier.
The high yield rippled through the Italian bond market, widening the spread between Italy’s benchmark 10-year bonds and comparable German bunds to a near record 3.79 percentage points. The cost of insuring Greek, Italian, Spanish and French debt all advanced to records.
James Waston, a professor at the American University of Rome, said in a note Monday that Italian Prime Minister Silvio Berlusconi “finds it impossible to deliver bad news and harsh measures because his popularity is more important than the country’s or Europe’s interests.”
His comments came as the Financial Times reported that the Italian government hopes to lure China into buying Italian debt and investing in some companies.
Mr. Lenhoff said the Greek debt crisis itself seems to be having little effect on the European banks at this stage. “Greece could default and the market may see some good in this as the prospect is pretty well discounted,” he said.
Not all European banks got hammered Monday. The prices of British banks, among them Lloyds and Barclays, fell only slightly after the Independent Commission on Banking released its final report. As expected, the report recommended that the banks put a firewall between the retail banking businesses and the riskier wholesale and investment banking arms.
The British banks were relieved because the recommendations, if approved by the government, would fall well short of a full-scale beak-up that some bank bosses feared.
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