Spain, Italy debt risk premiums hit euro-era records

2nd August 2011, Comments 0 comments

Italy and Spain's sovereign debt risk premiums soared to euro-era record highs Tuesday, a dangerous development in the eurozone debt crisis.

Spain's prime minister delayed plans to leave on vacation and Italy's finance minister met with the central bank and stock market authorities to grapple with the growing emergency.

The eurozone debt crisis has already claimed Greece, Ireland and Portugal, forcing them to seek bailouts from the European Union and International Monetary Fund.

There are growing fears Italy and Spain, the eurozone's third- and fourth-biggest economies, could be next in line, developments that would dwarf previous bailouts and could undermine the euro itself.

Investors sold down Spanish and Italian bonds on concerns that their debt problems would only get worse as economic growth slows.

The premium demanded for buying Spanish 10-year bonds over safe-bet German bonds surged to more than four percentage points -- 404 basis points -- the highest since the introduction of the euro in 1999.

Zapatero telephoned European Commission president Jose Manuel Barroso to discuss developments.

Spain also contacted Britain, France, Germany as well as Italy, where the risk premium hit a record high, too.

In Italy, where the risk premium shot to a record 384 basis points, Finance Minister Giulio Tremonti held a meeting of the Financial Stability Safeguard Committee in Rome.

The meeting, which included the central bank and bourse regulator Consob, was to discuss "the sovereign debt market situation and the implications for the banks and the economy," an official said.

Meanwhile the yield on German government bonds fell below the country's inflation rate for the first time since reunification in 1990, as investors sought a safe haven.

The yield on benchmark German 10-year government bonds fell to 2.395 percent, below the 2.4 percent July inflation rate, amid unprecedented demand.

The European Commission said that debt rescue planning for Spain, Italy and Cyprus was not on the cards.

"The question of a programme of emergency aid is certainly not on the table," said Chantal Hughes, speaking for Economic Affairs Commissioner Olli Rehn in Brussels.

European Union President Herman Van Rompuy said it was ridiculous to lump Spain and Greece in the same basket as Greece.

"We cannot underline enough that the situation in Greece is unique and is not comparable to those in other eurozone countries," Van Rompuy wrote in a commentary published in Le Monde newspaper.

"Current evaluations of risk on the markets do not correspond at all to fundamentals and it is ridiculous that ... these countries are considered the most likely to default on loan obligations," said Van Rompuy.

One trigger for the soaring risk premium was a rumour that Italy and Spain would be allowed to escape their obligation to join a European rescue of Greece, said Soledad Bueno, an Madrid-based analyst with Inversis.

"That gave the impression that they are not in a good situation," the analyst said.

Edward Hugh, an independent Barcelona-based economist, said Zapatero's decision to call a general election in November stirred up concerns about management of the crisis and fuelled doubts over Madrid's commitment to meet deficit-cutting goals during a pre-election period.

Confidence in Italy had been further strained by opposition calls for Tremonti to resign after a senior aide was caught up in a corruption scandal, he said.

But "the big underlying existential problem is can the euro handle it?," Hugh added. "It is just like the forest fire. You have weeks and weeks without rain, then it only takes a very little thing to set the whole thing off."

A July 21 summit of eurozone policymakers had evidently failed to reduce the risk of contagion from minnows like Portugal to the weighty economies of Spain and Italy, said a report by Berenberg Bank chief economist Holger Schmieding late last week.

At the meeting, eurozone leaders agreed alongside the private sector to pour another 159 billion euros ($226 billion) into Greece to stop debt contagion spreading across Europe.

"Europe still faces a tail risk of an irrational market panic that could trigger a series of sovereign and bank defaults. In theory, such escalating turmoil could endanger the euro itself," Schmieding said.

"We firmly believe that Europe will manage to contain the risk in the end. But to do so reliably, the ECB ought to abandon its current passive role and signal clearly that it would resume bond purchases if need be."


© 2011 AFP

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