The eurozone’s next crisis is already approaching, in Italy
The Continent's weak link poses a serious risk to entire European project
Real interest rates are surging across the developed world as a mechanical inverse effect of falling inflation (be careful what you wish for).
In Italy this is colliding with a debt ratio of 140pc of GDP, pressing the limits of what is tenable for a “sub-sovereign” borrower that no longer prints its own currency.
Goldman Sachs says the world’s bond sell-off has “exposed a fault line in European sovereign credit”, a gentle way of saying that monetary union risks another of its perennial eruptions.
Italy must roll over old debt and finance new debt equal to 24pc of GDP over the next year (ECB data), and do so at rocketing borrowing costs.
No other eurozone state is remotely close.
Debt interest is rising faster than nominal GDP – the ‘r-g’ rule of debt sustainability – and once you cross that threshold you have to take action to avert the snowball effect. If markets are right that we are in a new world of permanently higher bond yields – not my view – Italy is literally on borrowed time.
Moody’s has already cut Italian debt to one notch above junk, with a negative outlook.
Ratings set haircuts on collateral used by banks at the liquidity window of the European Central Bank. Italian lenders hold €483bn of government bonds, mostly Italian debt (EBA data). European banks as a whole have €3.7 trillion.
These portfolios are massively under water. The more that yields rise, the greater the losses, even if they do not have to crystallise them under mark-to-market rules
Most central banks accept the debt of their own country without question. The ECB does not.
That tiny technical detail is what amplifies the eurozone debt tremors at critical moments.
The ECB’s untested rescue mechanism for future crises (TPI) cannot be triggered until there is a) serious and unjustified stress in debt markets, and b) only if the country complies with EU fiscal rules.
Meloni’s budget is not compliant.
Ambrose Evans-Pritchard Telegraph 20 October 2023
https://www.telegraph.co.uk/business/2023/10/20/eurozones-next-crisis-already-approaching-italy/
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