Italy: no appetite for “self-help” policies

published 31 August 2018

911_MW_P06_Markets_Main — Italy: the eurozone's Achilles' heel

"Italy's on the ropes," says Marcus Ashworth on Bloomberg. Its huge public debt pile, worth around 130% of GDP, and high consequent financing needs, mean its bond market could use some "deep-pocketed patrons". However, Italy's insistence on a budget that might break EU rules on deficit limits doesn't make it particularly attractive. Italy's government has called for a "budget-busting package", which includes "a flat tax for the right and universal income for the left". That would swell the deficit to 7% of GDP, way past the 3% permitted under the rules of the euro, says Randall Forsyth on Barron's.

A timely offer

Enter Donald Trump, who has reportedly offered to buy some of Italy's sovereign bonds next year. This timeframe would coincide with the end of the European Central Bank's bond purchasing through quantitative easing, which has been a major boon to government bonds across the eurozone.

Buying bonds with printed money has kept long-term interest rates countries' borrowing costs down, especially in the case of the southern states that faced rising bond yields during the bloc's debt crisis, as Adam Samson notes in the Financial Times. Furthermore, in recent weeks there have been signs that investors are beginning to get fed up with the new populist government's antics. The Italian ten-year bond yield has climbed to over 3%, from 2% at the start of the year, showing that bond prices have fallen. Yields on the Italian ten-year bond are nearly 3% higher than Germany's. Foreign investors sold a record €38bn ($43.9bn) in Italian debt in June, up from €34bn in May, according to ECB data.

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that will come to nothing

Any real effort by Trump to follow through on his offer would encounter domestic resistance, so American purchases of Italian debt are unlikely. But the way things are going, Italy is heading for another debt crisis when the safety net of ECB bond buying is removed next year.

A bond-market crash isn't inevitable, says Neil Unmack on Breakingviews. If Italy can do more to boost its economic growth and bring down its debt, both investors and Brussels might be more tolerant. It could, for example, sell assets such as real estate or make the country more business friendly, suggests Unmack. "Self-help is Italy's best backstop."

Unfortunately, however, all the evidence so far suggests this could be a stretch. The last few governments made scant progress on structural reforms to bolster Italy's long-term growth rate. The latest one has gone backwards, "unpicking" minor pension and labour reforms. As a result, estimates Barclays, its potential growth rate will fall by 0.3%, which is pretty grim given that it is currently only 1%. Another item on the towering to-do list is to trim corporation tax to encourage entrepreneurship. Given all these structural problems, and no interest in addressing them, it's no wonder investors are worried that Italy is the eurozone's Achilles' heel.

Marina has a PhD in globalisation and the media from the London School of Economics, where she worked as a teaching assistant on the MSc Global Media. In 2014 she was invited to be a visiting scholar at Columbia University's sociology department in New York.

She has written for the Economists’ Intelligent Life magazine, the Financial Times, the Times Literary Supplement, and Standpoint magazine in the UK; the New York Observer in the US; and die Bild and Frankfurter Rundschau in Germany. She is trilingual and lives in London. She writes features and is the markets editor at MoneyWeek..