European debt crisis threat as Italian Bonds touches new high

The fear of European debt crisis became more pronouned on Wednesday as Italian government bond spiked to a new high of 7 percent plus. Italian market tumbled in the afternoon as bonds breached the important threshold of 7 percent, triggered by the fear that EU has no rescue plan for Italy. This had a spiraling effect on other world markets, including Asian markets on early Thursday.

Italy, a core Euro zone member and the 8th largest world economy, is the world’s third largest bond market. Its debt amounts to a huge 2.6 trillion Euros – considered too much to be absorbed by EU.

German chancellor, Angela Merkel, warned that unless concrete and quick structural reforms take place to cut cost, it could result in collapse of the Euro currency. Angela Merkel has also demanded changes in the EU treaties.

The European Central Bank has bought, until recently, large chunks of Italian bonds to cut back its borrowing cost. But it is unlikely that the bank will be willing to buy any more after the new high.

As the resignation of Italian Prime Minister, Silvio Berlusconi, is still a month away, investors confidence has gone southward. Experts feel that Wednesday’s market reaction is not because of its poor fundamentals but because of fear of instability triggered by lack of decisive action on the part of Italian Premier.

Italy on jitters over the debt crisis

After Greece, it is Italy’s turn to be hit by the spiraling debt crisis. On Monday, Europe’s financial crisis worsened as Italian government bond almost touched 15-year high, aided by slow economic growth. Like Greek Prime Minister George Papandreou, pressure mounted on Italian Prime Minister, Silvio Berlusconi, to resign and allow a new government to exercise reforms to reduce debt. But unlike Papandreou, the Italian Prime Minister refused to step down from his chair.

Unlike Greece, Portugal and Ireland, Italy needs a huge rescue package. The Italian debt amounts to 1.9 trillion Euros. It is feared that arranging for such a massive bail-out package could bring down the European Union, if not the global economy.

Monday saw the 10-year government bond of Italy touch 6.6 percent, the highest since Euro was introduced in 1997. As interest rate rises, government has to pay out more from its budget to investors who own these government bonds, thereby getting into debt.
The austerity measures promised by Italy to the European Central Bank was supposed to be passed before November 15th, current year. But that is caught in the deadlock because of conflicting interest within the government.

In an effort to save Italy from going under further debt crisis, European Central Bank has been buying government bonds to check its borrowing costs. But to tackle debt crisis, the Italian government must be prepared to take tough stand.