Not unlike last night’s match in the first round of the European football championships, it is hard to separate the financial perils endured by both Italy and Spain at the present time. The former has an eye-popping government debt mountain worth 120% of GDP, which with 10yr yields at 6.0% is becoming very expensive to finance. As noted by the head of Italy’s debt agency last week, foreign investors have been shunning Italy’s regular debt auctions this year, with the result that the government was becoming increasingly reliant on domestic investors.
Of concern to both investors and traders alike is that Mario Monti has been unable to deliver the comprehensive reform agenda that many had hoped for. Although Monti had a big win early on with pension reform, he relented soon after on labour market reforms which themselves are bogged down in parliament. He also back-tracked on service sector reform, despite sounding tough initially. And on spending, although he has promised significant cutbacks, the specifics of where the axe will actually fall is still sadly absent. Italian bond-holders want to hear the detail, because if he does not tackle this soon then an automatic increase in sales tax rates will be forthcoming in the second half of the year. As elections in the spring of next year draw closer, Monti’s ability to get important structural reforms through Parliament will wane. As things stand, it is hard to see how Italy can avoid the same fate as Spain.