While Eurocrats and ministers have spent months tweaking the details of the treaty, markets are focused on the more immediate threat of sovereign default and contagion in the EU’s third largest economy.
Last night, Moody’s cut short a relief rally in US stocks by downgrading Ireland into junk territory, saying that it is likely that, like Greece and Portugal, Dublin will need another bailout before it can return to markets.
Yesterday had already kicked off with a frenzy of selling that saw the euro plummet to its lowest level ever against the Swiss franc, at SFr1.32, and a four-month low of $1.38 against the dollar.
Yields on Italy’s ten-year debt shot to euro lifetime highs of over six per cent, dangerously close to the seven per cent level that analysts see as unsustainable for the sovereign’s debt, which stands at 120 per cent of GDP.
However, bond yields retreated later in the day amid rumours that the European Central Bank (ECB) had started up its dormant bond-purchasing programme to stem the tide of panic. But few are convinced that the ECB has the firepower for a sustained intervention in Italian sovereign debt markets, which are Europe’s biggest.
The task of buying sovereign junk bonds will be taken over by Europe’s new bailout fund, the European Stability Mechanism (ESM), from 2013 onwards, but many observers see the ESM as an irrelevance to current events.
“Dithering over Europe has reached new levels,” said Newedge’s Bill Blain. “There is fundamental disagreement between euro political elites and technocrats.”
Yesterday again saw Eurocrats fail to reach a deal on a new Greek bailout, and Italy has spooked markets after Prime Minister Silvio Berlusconi criticised his own government’s austerity plan as too harsh.
Berlusconi has tried to row back on his stance, saying that “the crisis is pushing us to accelerate the process of correction extremely rapidly” and asking for “sacrifices” from Italians.
Italy’s deficit is among the Eurozone’s smaller problems, at 3.9 per cent of GDP, but its high debt burden and a lack of political will at the top has fuelled market panic.
Monday saw several Italian banks’ share prices plunge, before failing to regain all of their losses yesterday despite recovering by around five per cent. Investors are anxiously awaiting the results of Europe’s second round of stress tests, due on Friday, in order to gain some clarity about banks’ vulnerability to the snowballing sovereign debt crisis.