Italy: Eurozone's new gravedigger?

Europe’s economic hot zone may shift to Italy. Pessimistic expectations have already provoked a slump in oil prices. The eurozone can survive a Greek default, but the collapse of an Italian-scale economy will signify the zone's demise and possibly the beginning of a new global crisis. However, experts think Italy’s collapse is unlikely because its economy is much more stable than Greece's, although it will not overcome its own problems without external assistance. Who will kill off the euro? The news from Italy is alarming given that the profitability of 10-year Italian bonds has climbed to a record-high 6.68 percent. Portugal sought the EU’s assistance when its bonds’ yield rose to eight percent. Rumors abound that the European Central Bank may refuse to buy Italian bonds unless the Italian government pledges to cut expenses and implement economic reforms. The La Repubblica newspaper has cited the Swiss Credit Suisse investment bank's forecasts that Italy has only 100 days to default and can quickly sink into collapse if structural reforms are not implemented immediately. If Italy defaults, Europe will be in deep trouble. Experts note that Greece's collapse – if it occurs – will deliver a hard, but not mortal blow to the EU financial system. However, the default of Europe’s third largest economy, Italy, will explode it. “The debt problem concerns primarily creditor banks and through them companies and citizens who credit these banks,” said Yelena Matrosova, the director of the BDO Group's Macroeconomic Research Center in Russia. “If bankers are forced to write off Italy’s multi-billion-euro debts, this will encourage a massive outflow of liquidity. In this situation, the European Financial Stability Facility's (EFSF) funds will not be sufficient to restore economic stability.” Meanwhile, Stock Market Development Center (SMDC) CEO Yury Danilov said Italy’s default will bury the eurozone and the euro. “Worse still, the slide may spread beyond the eurozone,” he added. Igor Nikolayev, the chief strategist at the FBK audit firm, said a major European economy's bankruptcy, such as Italy or Spain, will provoke a new global crisis. Probability of Italy’s default low It is another matter that experts say that, unlike the Greek default, Italy’s collapse is not very likely. This probability “is much lower than 50 percent, or even 25 percent,” Danilov said, if only because Italy is not Greece. Many experts say there are no sources of economic growth in Greece, which is why it cannot be saved with money injections or debt write-offs. “Unlike Greece, Italy is an industrialized country with a diversified economy,” said Yevgeny Gavrilenkov, the chief economist and managing director of Troika Dialog. Also unlike Greece, which “borrowed rather quickly and mindlessly,” Danilov said, Italy has had a large debt for decades. “Its debt-to-GDP ratio has been high since the 1960s,” he said. “Italy has developed political and economic mechanisms for managing its debt and has been using them quite successfully for several decades.” Experts admit that the Italian economy is seriously ill and will not get well without external assistance. “I don’t see Italy managing without external assistance,” Gavrilenkov said. “Italy’s economic growth has been feeble. Its GDP is expected to grow 0.5-0.6 percent this year and to fall by the same amount next year.” Facing the crisis: A way to survive Moreover, some experts say the eurozone’s leadership is perfectly aware of this problem and is preparing to help out more players than just Greece. “The EFSF will soon exceed 1 trillion euro, which is too much if they are planning to help only Greece,” said Vladimir Bragin, the director of Financial Markets Analysis at Alfa Capital. “This means the decision to expand it stipulated a margin of safety for dealing with the more serious problems of larger economies.” However, external financial injections will not be sufficient in this case. “The only viable solution provides for slashing state expenses, renouncing socialist policies, reforming labor legislation and increasing the work week in southern (European) countries,” Gavrilenkov said. He added that Italians and Greeks had grown used to high state expenditures and their reduction may provoke social unrest. The risks are indeed high, yet some experts disagree that Italy’s problems can provoke a new crisis if only because the risks have been pinpointed and both regulators and markets are preparing for the impact – unlike in 2008. “When you know where the wave will come from, you can face it and prepare for the impact,” Bragin said. “Everyone will have serious problems and the economy will slump, but not as low as in 2008. I don’t think it will be swept under.”