Italy’s political crisis has sent shockwaves through markets once again over growing concerns that Italy will leave the Euro, or force a break-up through a Greek-style financial panic.
Bond markets have reacted badly on the first trading day of the week, with Italian 2 year yields flashing higher from negative rates to over 2%. The move is higher is unprecedented for the Italian market and risks contagion in other Euro bond markets.
Italy’s crisis comes after the country’s President blocked the proposed government due to their Euroskeptic leanings, despite their success in recent elections. The move has emboldened the populist parties further and investors are having to re-price the chances of Italy leaving the common currency, or at least create problems through a departure from fiscal goals.
At Hillview Research we have long-doubted the strength and sustainability of the recent Eurozone recovery, which has been boosted by stimulus measures from the ECB. There are serious risks brewing with Italy, whose economy is ten times the size of Greece and would be unable to be bailed out by any institution. The Italian banking system has been struggling with bad loans and they are also big holders of Italian sovereign debt which is coming under attack in the markets.