Tags: euro | zone | italy | spain

EU Admits Investors Have Doubts About Debt Plan

Wednesday, 03 Aug 2011 12:53 AM

 

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The European Union voiced support for Italy and Spain under attack on financial markets but acknowledged that investors now doubt whether the euro zone, especially Italy and Spain, can overcome its sovereign debt woes.

European Commission President Jose Manuel Barroso said a surge in Italian and Spanish bond yields to 14-year highs was cause for deep concern and did not reflect the true state of the third and fourth largest economies in the currency area.

"In fact, the tensions in bond markets reflect a growing concern among investors about the systemic capacity of the euro area to respond to the evolving crisis," Barroso said in a statement.

He urged member states to speed up parliamentary approval of crisis-fighting measures agreed at a July 21 summit meant to stop contagion from Greece, Ireland and Portugal, which have received EU/IMF bailouts, to larger European economies.

But neither he nor European Monetary Affairs Commissioner Olli Rehn offered any immediate steps to stem the crisis, which has flared again with full force less than two weeks after that emergency meeting.

Italy has borne the brunt of a selloff triggered by the unresolved debt crisis and fears of a global economic slowdown. Its stocks and bonds gained some respite after a further early slump on Wednesday.

Italian Economy Minister Giulio Tremonti held two hours of emergency talks with the chairman of euro zone finance ministers, Jean-Claude Juncker, in Luxembourg but neither disclosed anything of substance after the meeting.

The European Commission said after Rehn spoke to Tremonti that Italy was "doing what is necessary to put the country back on track for higher sustainable growth and ensuring fiscal consolidation."

A Commission spokeswoman said there had been no discussion of a bailout for Italy, which would overwhelm the bloc's existing rescue funds.

The market turmoil caused alarm in some parts of Europe but apparent insouciance in the bloc's biggest economy.

"Italian and Spanish bond yields rose to their new record highs. This is a very alarming and scary thing," Finnish Prime Minister Jyrki Katainen told public broadcaster YLE. "The whole of Europe is in a very dangerous situation."

Prime Minister Silvio Berlusconi, who has been largely silent, closeted with his lawyers over several ongoing trials, was due to address parliament later. His speech was put back until after Italian markets close.

With many policymakers on holiday, there seemed little prospect of early European policy action, although euro zone governments were in telephone contact on the situation.

German Economics Minister Philipp Roesler said Italy and Spain were not even discussed at Berlin's weekly cabinet meeting on Wednesday which he chaired in place of Chancellor Angela Merkel, who is on vacation and did not call in.

Berlusconi's cabinet did not discuss the market turmoil either and a German government spokesman said Berlin saw no reason for alarm over the selloff of Italian stocks and bonds and was focused on implement the latest euro zone summit decisions.

The euro zone's rescue fund cannot use new powers granted at last month's summit to buy bonds in the secondary market or give states precautionary credit lines until they are approved by national parliaments in late September at the earliest.

The European Central Bank could reactivate its bond-buying program, which temporarily steadied markets last year but has been dormant for more than four months. Weekly data released on Monday show it has so far refrained from doing so despite market rumors to the contrary last week.

Italy and Spain could offer new austerity measures to try to placate the markets, but Rome has just adopted a 48 billion euro savings package and Madrid's lame duck government has just called an early general election for November 20.

BANK SHARES HAMMERED

Shares in banks exposed to euro zone sovereigns, particularly in Italy, have taken a hammering and are having growing difficulty in securing commercial funding.

"Bank funding remains stressed for southern Europe and remains a key source of risk for bank earnings, ability to lend and a drag on economic recovery," Huw van Steenis, analyst at Morgan Stanley in London, said in a note. "The risk of a credit crunch in southern Europe is growing."

Italian bank shares rebounded after data showed the Italian services sector contracted by less than expected in July. Shares in Unicredit, among those pummeled in the latest round of the crisis, rose 5 percent after Italy's biggest bank easily beat second-quarter net profit forecasts.

But the ripples continue to spread.

France's Societe Generale warned investors it may miss its 2012 profit target after taking a 395 million euro pretax charge in the second quarter on its exposure to Greek debt. Its shares fell 7 percent.

The Swiss National Bank cut its interest rate target and said it would very significantly increase its supply of liquidity to try to bring down the value of the Swiss franc, which it said has become massively overvalued.

The currency has served as a refuge, along with gold, amid market turbulence driven by anxiety over a slowing U.S. economic recovery and Europe's debt crisis.

Worries about Italy, the euro zone's third largest economy and second biggest debtor, have been exacerbated by political instability in Berlusconi's fractious center-right coalition.

The Italian parliament approved an austerity program last month but doubts have lingered about a weakened government's ability to enforce the cuts, and about the lack of structural reforms to boost Italy's miserable growth rate.

"For both Spain and Italy, the 7 percent level in yields is the one everyone is focused on," said West LB rate strategist Michael Leister. "Although we're still quite a decent amount away from that, any break of the 6.50 percent level is going to be a catalyst to get to those higher rates."

On Wednesday, Spanish and Italian 10-year yields stood respectively at 6.24 and 6.10 percent. The gap between them has narrowed as Italy has overtaken Spain as the main focus of market concern about debt sustainability.

© 2014 Thomson/Reuters. All rights reserved.

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