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Italy’s Debt Dilemma: Too Big to Fail and Too Big to Rescue?

November 9, 2011 at 12:00 AM EDT
Jeffrey Brown discusses Italy's rapidly escalating debt crisis and the implications for the rest of the Eurozone with Il Sole's Mario Calvo-Platero and Bloomberg-BusinessWeek's Roben Farzad.

JEFFREY BROWN: And for more, we turn to Mario Calvo-Platero, U.S. correspondent for the Italian newspaper Il Sole, and Roben Farzad of Bloomberg-BusinessWeek.

Mario, help us understand why Italy’s problem, debt problem, is spiraling out of control so quickly. Its economy remains relatively strong, right?

MARIO CALVO-PLATERO, Il Sole 24 Ore: Yes, the economy — well, you know, the growth rate is not particularly strong, but that’s a common problem that we all have in the Western world and in industrialized countries.

The problem is that Berlusconi has resigned, and the market was expecting a quick turnaround and the nomination of a new government immediately, which didn’t happen, because Berlusconi tried to gain time. So the market got worried. And we have some issues that are going in the market. We have tomorrow $5 billion that are going to be raised and then Monday a bigger one, $10 billion.

And so the markets started to become very nervous because they felt that there was a political vacuum. And so we saw the spread vis-a-vis the German bond go beyond 500 points and even to 540, 550 points, which has triggered the margin calls. And that is a technical aspect, but that means that the traders will have to put up more money in order to hold whatever liquidity they had against Italian bonds and Italian guarantees.

So that created a bit of a spiral. But, to finish…


MARIO CALVO-PLATERO: … the good news in all of this is that the president of the republic, Napolitano, which we have seen a little while ago, has given a very clear signal, has nominated as a senator for life Mario Monti. That is a signal and he will be the next prime minister and that is what the markets were expecting.

And hopefully, tomorrow, everybody will be a little bit more calm because hopefully by Sunday, or the latest Monday, there will be indeed a new government in Italy.

JEFFREY BROWN: Well, Roben, let me bring you in here, because Greece is one thing, but Italy is quite another, right, in terms of size and potential problem. Why are — why do you think investors are driving up the cost of Italy’s borrowing at this point?

ROBEN FARZAD, Bloomberg-BusinessWeek: It’s a game of chicken.

And if you think about Italy’s scale, you talk about an economy that is indebted to the tune of $2.6 trillion. That’s no AIG or that’s no small banks to bail out or a handful of profligate homeowners in the Southeast or the Sunbelt. That’s an unprecedented bailout even for the IMF.

And so traders here, international bond traders, are really trying to force the issue. If there’s a power vacuum in Italy, they want to see if the next one or two safeguards work. So if the European financial stability fund isn’t big enough to bail out an economy of this size and this heft, the hope — and, by the way, it’s also a taboo — is that the European Central Bank comes in, Ben Bernanke-style, and prints money to buy Italian bonds and drive their yields lower.

Now, that’s a taboo, that’s something that’s really culturally anathema to the continent there, which is much more worried about inflation than kind of a recessionary spiral.

JEFFREY BROWN: But, Roben, and the game of chicken you’re talking about is I guess a gamble that Italy can’t borrow at such high costs for too long.

ROBEN FARZAD: That’s right. Italy can sustain this to a certain extent, maybe even for several months, because Italy needs to be able to refinance its debts and roll over certain maturities.

But over the long run when you talk about hundreds of billions of euros, maybe $700 billion, something north of a trillion dollars, there is nothing in place that allows the continent to kind of have a failsafe to come in and bail out an economy of that size. Certainly, the German and French electorates wouldn’t countenance that.

JEFFREY BROWN: Now, Mario, we heard somebody in our report, the person there, the opposition figure, talk about the end of the Berlusconi part of the problem. Is this, in fact, the end of the Berlusconi era in Italy, a man who’s dominated things there for so long?

MARIO CALVO-PLATERO: I would say so. Everybody’s talking about the end of Berlusconismo, as we call in the Italy.

He has been dominating the scene for the past 17 years, and he has dominated, as we all know, in a quite colorful way sometimes. And the trouble is that he has not been effective on many of the things that he had promised that he would do. He represents a more liberal spirit. He comes from the right. He was promising deregulation.

Anyway, he wasn’t able — he has not been able to deliver that. So there is a bit of relief because finally the hope is that Italy can present a face, a new government, a large, wide coalition that will be able to tackle these problems and hopefully to solve them by attacking some of the issues that have not been solved, yet such as a certain aspect of pension reforms, public salaries that need to be cut, and probably — and this is the talk that is going on now — some kind of capital tax to pay back some of the huge debt that we have.

JEFFREY BROWN: Now, Roben, the impact we saw on markets, including U.S. markets today, is that due to direct exposure of U.S. banks and other institutions, or it more a general fear about what happens to Italy and Europe?

ROBEN FARZAD: Yes, it’s one of those things, direct or indirect, it’s almost like six degrees of Kevin Bacon at this point. If an Italian bank is going to fail, then certainly German banks and French banks are only one or two degrees removed from that.

And then you talk about Wall Street and Bank of America and Citigroup and J.P. Morgan. And so it’s kind of unthinkable for us to even imagine some sort of controlled take-apart like that. And that speaks to the bigger issue here. There’s no mechanism in place for the ultimate taboo, which is the breaking up of the Eurozone. It’s not just a matter of retrofitting parking meters and ATM machines.

If you suddenly boot a country like Greece out of the euro, you’re going to see Greek citizens potentially have a run on their bank, go out to take the euros out before the devalued and depreciated drachma comes in. And that then could cause banks to fail and then a whole ripple across other economies there, and then it happens across the Atlantic.

I mean, if we thought we had a problem with AIG and Lehman Brothers and that chain effect three years ago, it’s on orders of magnitude larger than that. So we almost don’t want to consider the possibility.

JEFFREY BROWN: All right, well, Mario offered us some ray of hope for tomorrow in Italian politics. We will watch for that.

Mario Calvo-Platero, Roben Farzad, thank you both very much.

ROBEN FARZAD: Thank you.