The market is showing some weakness today that most are contributing to worries about recently rising yields on the 10 year note in Italy going into a bond auction tomorrow, and news from an ECB release on their lending program. There’s also saber rattling over in Iran, a rising dollar vs. the Euro etc. I wanted to zoom in on the Italy story for a second just so everyone knows what to look for over the next few weeks and months.
When the ECB originally announced its lending program a little over a week ago, we saw short term borrowing costs collapse in some of the more worrisome European nations, namely Italy and Spain. In Spain, that easing carried over to their longer dated costs as their 10 Year Yield is also well off its highs. Here’s some charts, nerds. First the Italian 2 year:
As you can see it’s way off its highs from November. Here’s the Spanish 2 year:
Same thing. Let’s go a little farther out. Here’s the Spanish 10 year, following a similar move of their shorter term costs:
But here’s where things get a little weird. Here’s the Italian 10 Year, which is not getting in line:
This one isn’t so sweet. The yield is back up near 7% and approaching its crisis levels from November. So what’s going on? Should we be worried? Is this a feature or a bug of the program. Joe Nocera from the NYT thinks it’s a feature, and that this is exactly what the ECB and in turn the Germans want.
Rates have also fallen significantly on government debt out to three years, but the declines in longer term rates have been smaller.
It now seems obvious that this was what Mr. Draghi had in mind. Spain and Italy will be able to borrow money from the market at rates they can live with, but this move is unlikely to have much effect on long-term rates. If those stay high, the pressure for austerity, as Germany demands, will remain.
So this is the thing to watch for. Does the ECB and Germany continue to do these measures in a way that they can have their cake and eat it too? Can they navigate the short term risks of Eurogeddon without getting all they want in the way of concessions from the Italy’s of the world on austerity measures? This is a tightrope they’re walking and it’s kind of fascinating to watch. The big question is can they pull it off? Austerity generally means slower growth and possible recession. And recession puts even more pressure on already strained government revenues across the Eurozone. The ECB seems to be accepting that and thinks it can hold the Eurozone together despite it. Who knows…
More will be added to this story tomorrow as Italy attempts to sell a bunch of 10 year notes.
(Charts from Bloomberg.com)