Italian government bonds unpopular

Following on from the European Commission The bond market is now also expressing its concerns about Italy's debt problems. At the last auction of Italian government bonds, interest was exceptionally low. After two days, only €660 million had been raised from investors, far below the €5 billion target.

It is no coincidence that investors dropped out en masse this week. The Italian government is on a collision course with the European Commission, which is considering imposing fines on Italy for violating European fiscal rules. Italy's new government was given the opportunity to adjust its budget, but in the end it did not do so. As a result, the deficit will reach 2.4% next year, further increasing the high public debt of 130%.

Italian bond auction was dramatic this week (Source: Bloomberg)

Financial markets punish Italy

The Italian government has no intention of revising its budget under pressure from Europe, but it cannot escape the discipline of the market. Since the beginning of this year, the interest rate on Italian 10-year bonds has risen by 150 basis points to 3.5%, doubling the difference with comparable German government bonds (the so-called spread) to 315 basis points.

The high spread between Italian and German government bonds has been in the news frequently in recent months, making investors more reluctant to lend money to Italy. The prospect that interest rates could rise even further makes investors nervous, as the value of previously issued debt securities with lower interest rates is falling.

Italian 10-year yields have risen sharply this year (Source: Bloomberg)

Italy in trouble

The last time there was so little interest in new Italian government bonds was in 2012, when the European debt crisis was at its peak. Now the situation is completely different, because the problems are now mainly concentrated in Italy. In 2012, the ECB intervened because several countries were in trouble at the same time, but the central bank is unlikely to do so for one country. In fact, this year the bond-buying program will be completely phased out, which means that the central bank will no longer buy any new Italian bonds at all in two months' time.

When the bond-buying program was still running at full speed and the central banks of the Eurozone countries were buying many billions worth of bonds every month, there were plenty of investors who wanted the Italian debt securities. That picture has completely changed now that the discipline of the market is doing its work and interest rates are rising. Sooner or later, the government will have to change course to avoid real problems.

This contribution was made from Geotrendlines