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Berlusconi set to leave… Italian debt set to stay

10 Nov

Another day, another record of high cost borrowing. Yields on Italian bonds were 7per cent, a level seen as unsustainable.

Only this time a possible bailout for Italy poses as a much larger threat than those for Portugal, Ireland and Greece. With Italy’s size, it has been deemed “Too big to bail” according to many investors. Fredrick Newman from HSBC in Hong Kong said, “Europe has moved from a manageable crisis in Greece to a much bigger challenge in Italy.”

Italy has a slow growth rate, which means it would be virtually impossible to pay back what it owes over ten years with an interest of 7per cent. This could raise the prospect of an uncontrolled default by the country, meaning global financial markets would be undoubtedly hit hard.

What’s more, the fear of contagion has been causing unease in the market. Rebecca Patterson, chief market strategist at J.P. Morgan Asset Management, said: “Contagion is alive and well.” She said Italy could pose as a “systemetic risk” to global economy, accounting for 20 per cent of the GDP of the eurozone.

James Mackintosh, investment editor for the Financial Times, said Italy “could live with higher borrowing costs for at least a year, although it wouldn’t be terribly comfortable for Rome… The real problem is investor psychology.”

Even if investors wanted to buy Italian bonds, they would see how others found it unattractive, meaning they are likely to steer clear.

Amidst the panic, the confusion over early elections in Italy have been making the headlines. Traders responded well to Mr Berlusconi’s planned departure, which saw a positive effect on financial markets. But a disagreement between Mr Berlusconi and Italian President, Giorgio Napolitano has sparked fears over whether the country will hold early elections next year.

Under Mr Berlusconi’s rule, the country has seen unemployment rates amongst young people reach a shocking 30per cent. It is hardly surprising the country craves new leadership in such turbulent times.

Mr Napolitano aimed to dispel the rumors last night, insisting that Mr Berlusconi will leave “within days.”

Mr Mackintosh said, “It’s true that Italy needs to dump Mr Berlusconi and reform its economy. It needs to do both pretty urgently. It will need to be financed in the mean time.”

All signs lead to the ECB. John Stopford, head of fixed income at Investec suggested if the ECB did not step in it could mean a break-up of the euro.

But with a potential rescue cost of as much as 1,000billion euro, the euro debt crisis fund could reach breaking point. Italy needs to issue 340billion euro in new debt in 2012, but the eurozone bailout fund only has about 300billion euro left over after the bailouts of Greece, Ireland and Portugal.