While investors were concentrating on Greece this week, Italy, the eurozone’s third-biggest economy, was thrust back into the limelight. Credit-ratings agency Standard & Poor’s downgraded its debt by one notch and threatened to reduce it further. It was Italy’s first downgrade in five years. The yield on Italy’s ten-year bond rose almost to its highest level since early August. Italy’s long-term interest rates have only been kept at manageable levels by the European Central Bank’s programme of bond-buying.
Italy, which is too big for the eurozone’s rescue fund to bail out, is “viewed by investors as the next weakest link in the euro chain”, say Simon Nixon and Matthew Curtin in The Wall Street Journal. The market “clearly isn’t impressed” by Italy’s efforts to tackle its debt problems so far.
Parliament finally passed an austerity package last week. The plan foresees Italy balancing its book by 2013. The big worry, however, is not closing the deficit, which remained relatively small after the credit crisis. It’s the overall debt pile worth 120% of GDP and the fact that Italy has barely grown over the past decade, making it increasingly difficult to reduce the debt. Boosting growth is hardly rocket science: it requires liberalising “one of Europe’s most complicated and overwhelming systems of red tape”, says Peter Spiegel on FT.com.
But the structural reform that has been overdue for years sits ill with the prime minister Silvio Berlusconi’s “populist propaganda”, as Neue Zurcher Zeitung points out. He also seems far more concerned with keeping out of legal trouble arising from his private business dealings than with sorting out Italy’s problems, while the enmity between himself and his finance minister doesn’t exactly help. Throw in an election due next year and “markets are rightly sceptical Rome has the political will to make tough decisions”, say Nixon and Curtin.
To make matters worse, it looks as though Italy is on the brink of falling back into recession, says Capital Economics. So even the plan to close the deficit could come unstuck. With no action on structural reform likely anyway, a “disastrous” default “remains a distinct possibility”.