After international markets went into a panic earlier this week over concerns that Italy, the European Union’s third largest economy, would not be able to pay its debt – which amounts to 120 percent of the country’s GDP – the Italian Senate today passed an austerity measure, cutting some $57 billion in spending. An Italian bond auction also successfully raised $8 billion.
But Italy’s rapid response has done little to quell growing fears that Europe’s PIIGS – Portugal, Ireland, Italy, Greece and Spain – have dug themselves into a financial hole that they and the rest of the European Union will have difficulty emerging from. For the last year and a half, investors have engaged in a game of chicken with each of these countries, expressing concern that their debt is unmanageable and cannot be mitigated by spending cuts, assurances from other EU members that bills would be paid, and — in the case of Ireland, Portugal and Greece — bailouts.
In recent weeks, concerns about whether this game is sustainable have mounted. Germany, which has begrudgingly backed the bailout packages, has begun to show signs that it’s tiring of playing Europe’s financial savior. Bond rating agencies have downgraded debt, questioning the resolve of governments to institute austerity measures and the high cost of continued borrowing. The crisis contagion has jumped from Greece to Portugal to Ireland – and now to Italy.
“Each time it touches a new country, it ratchets up … [and] we get closer to a real systemic crisis in the euro zone,” said Erik Jones, professor of European Studies at the SAIS Bologna Center of the Johns Hopkins University.
Each of the PIIGS is now at a crossroads. Each country faces sustained austerity and responsible spending in one direction – with financial ruin and the possible end of the euro zone in the other:
This morning Italy took the important step of conducting a successful bond auction, raising some $8 billion dollars. The Italian Senate also passed an austerity package, with Italy’s lower house expected to pass the bill tomorrow. Still, European stocks traded lower over concerns about the high cost of borrowing from Italy: Yields on the five-year bonds sold this morning were nearly five percent. At this price, according to Boris Schlossberg, director of currency research at Global Forex Trading, it would be too expensive to service debt that amounts to 120 percent of Italian GDP. “Despite its ability to tap the credit markets, Italy faces a very tall task of refinancing more than [$84 billion in] bonds over the next 6 weeks,” Schlossberg said.
The country has received portions of the $116 billion bailout package provided by the European Union and the International Monetary Fund. Yet recent and violent strikes in Athens, and political uncertainty surrounding George Papandreou, the country’s socialist prime minister, have spurred fears that the austerity necessary to receive the bailout was possible. The European Central Bank today announced that debt-to-GDP ratio would reach 161 percent in 2012, making the needs for dramatic cuts even more apparent.
New IMF Managing Director Christine Lagarde has also raised questions about the future of the bailout package. She told reporters earlier this week that additional spending cuts were needed and “nothing should be taken for granted” in Greece. Her statements have promoted renewed squabbling over the plan among European leaders, with Germany again insisting that private investors share part of the Greek burden. France, on the other hand, has offered to finance Greek debt though French banks.