New turmoil in eurozone sparks worldwide sell-off

 

Fear stalked markets today as the prospect of political gridlock in Italy and panic over a new phase in the eurozone crisis triggered a global sell-off.

Investors took flight from risk as Italy’s voters delivered a huge thumbs-down to austerity policies that have sent unemployment soaring and left the eurozone’s third-biggest economy mired in recession for the past 18 months.

Pier Luigi Bersani’s centre-left coalition looked set to scrape home in the lower house of parliament, but the Senate appeared split with no party in control — paving the way for more political uncertainty and the likelihood of fresh elections.

Italy’s benchmark cost of borrowing for 10 years soared 30 basis points to 4.78% as investors were spooked by the resurgence of former prime minister Silvio Berlusconi, who pledged to cut taxes, and the astonishing support for former comic Beppe Grillo’s anti-austerity Five-Star Movement. Italy’s leading shares tumbled more than 4%.

Spiro Sovereign Strategy managing director Nick Spiro said: “This is a backlash against the political establishment and against austerity. This is the biggest challenge to the eurozone’s austerity policy since the crisis first erupted in 2010.”

The contagion spread to Spain and bailed-out Portugal, which both saw rising borrowing costs as investors sought safe-haven German bunds and UK Government debt despite the loss of its AAA rating. The FTSE 100 index fell 1.2% and Spain’s 35 biggest companies lost 2.9%. France’s CAC 40 and Germany’s Dax both sank 3%.

The pound, trading at 16-month lows against the euro yesterday, was on the front foot today, at above €1.16. Clear Currency dealer Peter O’Flanagan said: “We would not expect a full resolution to Italy’s political uncertainties for a few weeks at least, and as pressure mounts on bond yields contagion concerns will once again weigh on Europe and the single currency.”

The turmoil represents the first significant setback for the crisis since European Central Bank president Mario Draghi stabilised markets by promising the backstop to buy up bonds last summer through Outright Monetary Transactions (OMTs). But ECB support is conditional on reform efforts by countries requesting aid.

Royal Bank of Scotland analyst Alberto Gallo said: “Italy’s reform agenda is in serious doubt. Such political turmoil means the ECB is unlikely to activate the OMT to protect short-end sovereign yields. Investors should now think on whether the OMT is really there when it really matters.”

Experts said Bank of England rate-setters could be swayed towards printing more money if the turbulence was sustained. Investec’s Victoria Clarke said: “There could be a bit more of a tilt towards more QE but it depends how long this takes its toll on markets and risk assets more generally.”

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