Natixis’s Patrick Artus tackles Italy and Spain – two very different problems
Financial markets often have the habit of linking the situations of Italy and Spain. Yet the two circumstances are quite different, and the stimulatory policies needed from Europe are equally diverse.
Italy has a trade surplus, a large exporting sector and a primary fiscal surplus. But it has a very high level of public debt, and is sensitive to interest rates.
A suitable European co-operative policy for Italy would involve the purchasing of its government bonds, in large enough amounts to significantly lower long-term interest rates. Most eurozone countries seem reluctant to conduct such a policy, however.
Spain, on the other hand, has a twofold problem: since the bursting of its real estate bubble it has had excess private debt and high rates of unemployment. Moreover, its small industrial sector is unable to create and replace the jobs lost in the construction industry and related sectors.
Indeed, purchases of government bonds would not be enough to pull Spain out of the crisis. It needs policies aimed at reducing the private debt load, which could be achieved by the purchasing and restructuring of private loans by the ECB. European solidarity would encourage job creation and investment by financing the reduction of companies’ welfare contributions.
When we compare the two, helping Spain is going to be far more difficult than fixing the situation in Italy, mainly due to Spain’s crisis in the real economy. Yet the correlation between risk premia on sovereign bonds, bank bonds and corporate bonds across Spain and Italy is impressive.
It shows that the markets (in particular, investors) wrongly believe that the economic and financial situations of Italy and Spain are similar.
Contrary to what many investors believe, Italy has no serious structural problem. It has a trade surplus – in total terms and within its industry – thanks to its large-scale industrial sector and numerous exporting companies.
Italy’s key problem is the very high level of its public debt ratio, a legacy from the past, which has led to a detrimental fall in the long-term growth of public investment. This has very negative consequences.
For one, the country now has a high sensitivity to long-term interest rates. Italy now needs a primary surplus of 6% of GDP to stabilise its debt over the long-term. But when long-term interest rates become far higher than growth, as is occurring today, the required primary surplus becomes unattainable.
For that reason, a suitable remedy for Italy would be purchases, either by the EFSF/ESM or the ECB, of sufficient amounts of Italian government bonds to drive long-term interest rates down to a “normal” level.