Italy is likely to need an EU rescue within six months as the country slides into deeper economic crisis and a credit crunch spreads to large companies, a top Italian bank has warned privately.
Mediobanca, Italy’s second biggest bank, said its ‘‘index of solvency risk’’ for Italy was already flashing warning signs as the worldwide bond rout continued into a second week, pushing up borrowing costs.
‘‘Time is running out fast,’’ said Mediobanca’s top analyst, Antonio Guglielmi, in a confidential client note. ‘‘The Italian macro situation has not improved over the last quarter, rather the contrary. Some 160 large corporates in Italy are now in special crisis administration.’’
The report warned that Italy will ‘‘inevitably end up in an EU bail-out request’’ over the next six months, unless it can count on low borrowing costs and a broader recovery.
Emphasising the gravity of the situation, it compared the crisis to when the country was blown out of the Exchange Rate Mechanism in 1992 despite drastic austerity measures.
Italy’s 2.1 trillion euro ($3 trillion) debt is the world’s third largest after the US and Japan. Any serious stress in its debt markets threatens to reignite the eurozone crisis. This may already have begun after the US Federal Reserve signalled last week that it will begin to drain dollar liquidity from the global system.
Italian 10-year yields spiked to 4.8 per cent, up 100 basis points since the Fed began to toughen its language in May. But Mediobanca is particularly concerned about the gap that has emerged between yields on short-term bills (BOTs) and longer-term bonds (BTPs) near maturity that expire at the same time.
BOTs retiring on July 31 are trading at a yield of 0.48, while the equivalent BTP is trading at 0.74 per cent. The reason is that BOTs are protected from debt restructuring.
‘‘The bills never get a haircut, so people are fleeing bonds instead as positions gets squeezed,’’ said one City trader.
Sovereign debt strategist Nicolas Spiro said ‘‘taper terror’’ is jolting eurozone investors out of their complacency, though safe-haven Swiss and German bonds have also sold off sharply in the rout. Yields on 10-year UK Gilts closed at a two-year high of 2.53 per cent. Yields punched to 5.1 per cent in Spain, and 6.7 per cent in Portugal. This is sending a secondary shock wave through their corporate debt markets, choking recovery.
‘‘The European Central Bank needs to take very aggressive steps to offset this,’’ said Marchel Alexandrovich from Jefferies Fixed Income. ‘‘We have a sell-off across the board. If the ECB doesn’t act, it could see all the gains of the last nine months vanish in two weeks, taking the eurozone back to square one.’’
The ECB has already backed away from earlier plans to steer credit to small businesses in the Club Med bloc.
The Italian banking association said it was bitterly disappointed by the latest break down in eurozone talks on a banking union, warning that it leaves Italy’s lenders at the mercy of a confidence crisis.
Andrew Roberts from RBS said the world has become ‘‘a dangerous place’’ as Fed tightening marks an inflexion point in global liquidity.
‘‘Central bank stimulus has fed a lovely carry trade and a rising tide has lifted all boats, but unfortunately the opposite is also true,’’ he said. ‘‘We have clear signs in global finance of a generalised meltdown in assets right now.’’
Julian Callow from Barclays said the Fed, the Bank of Japan, China’s central bank and others have bought almost the entire $2 trillion issuance of AAA bonds over the past year. The effect of this has been to drive banks, insurers, and pension funds into riskier assets such as the eurozone periphery. This has helped prop up the eurozone, and camouflaged festering problems.
‘‘The Fed’s shift towards tightening is highly significant, and it is causing a very dramatic rise in real yields,’’ he said. Borrowing costs of 5 per cent could prove crippling for Spain and Italy, both suffering from contraction of nominal GDP.
Mediobanca said the trigger for a blow-up in Italy could be a bail-out crisis for Slovenia or an ugly turn of events in Argentina, which has close links to Italian business. ‘‘Argentina in particular worries us, as a new default seems likely.’’
Mr Guglielmi said Italy’s industrial output has slumped 25 per cent from its peak in the past decade, while disposable income has dropped 9 per cent and house sales have dropped to 1985 levels. The 1992 crisis was defused by a large devaluation, allowing Italy to restore trade competitiveness at a stroke.
Mediobanca said: ‘‘The euro straightjacket is clearly not providing a similar currency flexibility today. With the lira devaluation Italy managed to inflate debt away, which it cannot do today. It could take more than 10 years to revert to pre-crisis output levels.’’
The Telegraph, London
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