In yesterday’s Sunday Independent, noting that Italian and Spanish ten-year yields had closed Friday at just under 5.30 and 5.70 respectively, I wrote:
‘The sole priority for the Eurozone should be to prevent the spread of bond market contagion to Spain and Italy, launching a new financial crisis on a scale beyond the rescue capability of the EU and IMF. If the crisis affecting Greece, Ireland and Portugal can be confined to those three countries there is a reasonable chance that Spain and Italy will retain access to the markets. If the contagion-spreaders in control of European policy continue the shambolic performance of recent months…… Spain and Italy will be swamped and the costs of resolving the Greek, Irish and Portugese problems will begin to look like a bargain. The Spanish Treasury managed to sell some three- and five-year bonds during the week….. But at some stage solvent-for-now issuers such as Spain must face the music in the ten-year market or their outstanding debt bunches shorter and shorter. If the Spanish ten-year interest rate edges much above 6%, the game will probably be up.’
Spanish ten-year yields breached 6% this morning, with Italian yields approaching 5.7%. EU Finance ministers are meeting this evening and might ponder this comment from Reuters:
‘Gary Jenkins, head of fixed income at Evolution Securities, said that while Italy is still a long way from the tipping point in terms of bond yields — markets have focused on yields of 7 percent as unsustainable — recent experience shows how quickly things can get out of control. Greece, Ireland and Portugal spent an average 43 consecutive days trading over 5.50 percent before they went north of 6.00 percent on a consistent basis, Jenkins said. That fell to an average of 24 consecutive days before rising above 6.50 percent, and just 15 days before the 7.00 percent level was breached on a consistent basis.’
In a low-growth economy like Italy and with an inflation target of 2% I am not confident that the ‘tipping-point’ is as high as 7%. But not to worry, the EU Commission is on the case, this from RTE:
The EU has called for a ban on rating agency decisions on countries under internationally-approved rescue packages. Speaking in Brussels, Internal Markets Commissioner Michel Barnier also said that governments should be fully informed before being downgraded by ratings agencies.
So the agencies would have to quit rating Greece, Ireland and Portugal, but could fire ahead rating Italy and Spain. Jose Manuel Barroso, the EU Commission president, also targeted the agencies last week, alleging market manipulation no less, and anti-European bias. The problem, in the estimation of these two EU luminaries, has been caused by the ratings agencies. With no Plan B apparently, the failure of Plan A needs to be assigned somewhere, and US ratings agencies will do fine.
What precisely is the proposal of the EU Commission to deal with the contingency that Spain and Italy are forced to exit the bond market over the next few months?
Meanwhile the Italian authorities have banned short selling of bank stocks, which older readers will recall was the source of the problems at Anglo.
Both Spain and Italy need to tap the markets on a continuing basis. The yields they now face at ten years are about the level that persuaded Ireland to take a holiday from the market last September. Their yield curves are also beginning to flatten ominously, with shorter rates rising more quickly than mediums.
The bank stress tests Mark II are due on Friday. This could be a long week.