European finance ministers were struggling last night to persuade nervous markets that Italy will not be the next domino to fall in the eurozone's apparently endless succession of sovereign debt crises.
But this time is different, as the saying goes: unlike Greece, Portugal and Ireland, the sheer size of Italy's economy and the scale of her debts are way beyond the resources of the current EU/IMF rescue funds, and probably any conceivable new arrangements.
An Italian sovereign debt crisis, as observers and policy makers have long quietly feared, could quickly mutate into an existential crisis for the euro itself, probably spread via Europe's highly integrated and vulnerable banking system. French banks in particular are thought to be badly exposed to Italy, as they are to Greece.
As talk of "contagion" mounted, Italian government bonds suffered the same kind of abandonment seen before in the cases of Greek, Portuguese and Irish sovereign debt. The spread between 10-year Italian and benchmark German Bunds – a reliable indicator of how secure investors feel about lending to a government – reached a new euro-era record of 285 basis points before easing back to 269 points by mid-afternoon.
However, that is still below the 300 basis points spread on Spanish debt, and the notional 1,700 points demanded by investors to lend to Athens.
The interest rate on a 10-year Italian bond was 5.5 per cent, while the rate on the German equivalent, considered the safest in the eurozone, traded at 2.81 per cent.
Shares in Italian and other banks were especially targeted: the Milan market fell 4 per cent, with Fiat Industrial, Intesa SanPaolo Bank and Telecom Italia among the worst performers. The "contagion" spread back towards other markets – Portugal's Banco Espirito Santo lost 4.9 per cent, BNP Paribas 4.5 per cent and Société Générale 4.2 per cent of their market values. RBS was down 2.9 per cent and Barclays 2.1 per cent.
The proximate cause of the panic was a rumour about the poor prospects of Italy's banks – which hold the bulk of her sovereign debt – passing the "stress tests" being conducted by European regulators, the results of which will be published on Friday. This was given traction over the weekend by a leak that Italy's travails were due to be discussed by European finance ministers meeting in Brussels today.
Ministerial assurances seem to have done more harm than good. Wolfgang Schäuble, the German finance minister, said: "I have no doubt that Italy will take the right decisions. That's all. It's the usual excitement before such meetings. It shouldn't be taken too seriously, Italy is on the right path."
Perhaps oblivious to the meltdown in the markets, ministers instead concentrated on how to persuade private bond holders of Greek debt to participate in a voluntary roll-over of their bonds, in such a way as to avoid even a technical or "selective" default.
As the third largest nation in the single currency area and with a GDP approximately the size of the UK, Italy would be "too big to save". While her 4.9 per cent annual budget deficit is modest, at almost 120 per cent of GDP, Italy's total national debt rivals Greece's for unsustainability.Reuse content