Euro crisis engulfs Italy

The Italian president was tonight working frantically to address market concerns by assembling a new government to allow current Prime Minister Silvio Berlusconi to stand down by Monday when an auction of government debt is due.

The Italian government is having to pay a record 7.5 per cent to borrow money from sceptical investors – the level at which Ireland and Portugal were forced to accept bailouts from the EU and IMF. Just twelve months ago, financial markets were charging Italy just over four per cent for ten year loans.

In recent months it is Greece’s debts that have caused most concern, with speculation that Athens could have to leave the euro. But as the eurozone’s third biggest economy, Italy’s predicament is now the focus of eurozone leaders.

Christine Lagarde, head of the IMF, said in Beijing that the European debt crisis could plunge the global economy into a Japan-style “lost decade”.

Bailing out Greece is seen as manageable, but there is not enough money available in the European Financial Stability Facility to cover Italy’s debts. Ms Lagarde said she was hopeful that the technical details of a plan to boost the fund’s firepower from 440bn to 1tr euros would be ready by December.

Rest of the world says “nein, danke” to euro bailout: read Faisal Islam’s blog

Resignation

Mr Berlusconi’s government has been criticised for not doing enough to tackle the Italy’s 1.9tr euro debt. On Tuesday, he lost his parliamentary majority in a vote on the government’s austerity measures, and announced his resignation.

There were hopes this would pacify the markets, but the rise in Italian bond yields to levels many see as unsustainable suggests that Rome’s problems are set to continue. Yields increased because of investors’ fears that they may not get their money back if they buy Italian bonds.

‘Very personal’

“Over the last couple of weeks it has become very personal and about Berlusconi,” said Gary Jenkins, from Evolution Securities. “But the truth is that the initial sell-off in Italian bonds has all to do with its debt position, the amount of money that needs to be refinanced and the problems in Europe in general.”

The European Central Bank continued to buy Italian bonds on Wednesday, and Mr Jenkins warned that if it stopped doing so, yields would rise beyond 10 per cent.

We will go to double digits in a heartbeat. Gary Jenkins, Evolution Securities

“If they announce today that they are not going to buy Italian bonds and there is no alternative buyer we will go to double digits in a heartbeat.”

Although the markets initially welcomed Mr Berlusconi’s decision to resign, they are now being spooked by uncertainty over when Italy will hold elections. Mr Berlusconi said voters would not go to the polls until February.

Greece

Faith in the eurozone was not helped by the fact that even though the greek Prime Minister George Papandreou did finally resign, the country’s politicians were unable to agree his replacement, leaving Greece leaderless on Wednesday night.

The coalition government’s main task will be to push through the austerity package agreed with the EU and IMF as the price of a 130bn euro bailout. Former ECB vice-president Lucas Papademos had been tipped as Greece’s next prime minister, but this is now in doubt.

Greece will only receive the bailout when the new government is formed. It needs this financial support to avoid bankruptcy when debt repayments are due in December. Austerity measures, including public sector job losses and wage cuts, have led to widespread protests across Greece.