World investors pushed up borrowing costs for Italy and Spain on Monday, and the Moody’s ratings agency threatened a new downgrade of euro-zone governments as analysts digested the outcome of last week’s European summit.
The summit’s ambitious plan to tame government debt in the future provided little reassurance on a more short-term issue: whether Italy and Spain can finance themselves in the coming months and make good on the mountain of debt they have accumulated.
The two nations between them need to refinance more than $300 billion in bonds that are coming due in the next six months — part of a worldwide flood of government debt that the Organization for Economic Cooperation and Development warned may already be driving up interest rates as countries compete for funding amid historically high levels of public borrowing.
Their ability to raise money at a reasonable cost will be perhaps the key gauge of whether the euro zone has time to work on its grander political plans — or whether more acute problems lie just ahead. The initial signs from the market were not optimistic: Long-term Italian and Spanish borrowing costs spiked Monday, and European and U.S. stock indexes skidded sharply on renewed doubts about the outcome of the summit.
“The road towards a real fiscal union remains long, and to actually get there, the Eurozone will have to survive the next weeks and months,” ING senior economist Carsten Brzeski wrote in an analysis Monday. “This may only be possible if a credible bazooka emerges to eventually bail out countries or to at least tackle market pressure.”
From a political perspective, the meeting in Brussels was considered at least a partial success. Leaders of the 17 nations that use the euro agreed to quickly develop ways for them to police one another’s spending and enforce changes if a country’s annual budget deficit gets out of line. The other members of the 27-nation European Union agreed to go along — with the notable exception of Britain.
But there are many hurdles for the plan to surmount, and the results may not be apparent for years to come.
The question of how to build and deploy a financial “bazooka” powerful enough to defeat Europe’s short-term problems remained unresolved, and analysts say the region’s financial markets are likely to remain turbulent until a solution is found.
The summit’s outcome “does not provide any immediate relief” to markets looking ahead to early 2012, when Italy and Spain in particular will have a series of large bond sales, said Jacob Funk Kirkegaard, an analyst at the Peterson Institute of International Economics.
There are elements of a plan emerging.
European leaders agreed to lend $200 billion to the International Monetary Fund to add to the resources the agency has available for global crisis management — including a possibly expensive bailout of Italy. That amount may grow in the coming weeks if China, Japan or others with large amounts of foreign reserves agree to make similar loans.
They also said they will accelerate to mid-2012 the start-up of a $650 billion bailout fund, the European Stability Mechanism, funded by contributions from euro-zone members. That fund is to take over on a permanent basis from an existing temporary fund, the European Financial Stability Facility, which has the capacity to lend about $630 billion.
The summit agreement hinted that the two programs might be allowed to run concurrently, roughly doubling the amount of money available for crisis management.
But it remained unclear — as it has throughout Europe’s struggle with sovereign debt — whether those ideas will matter when Italy and Spain try to sell debt at the start of the year.
The loans to the IMF cannot simply be recycled to Europe; the funds would be used to help a country only after it runs into trouble. As for Europe’s own bailout fund, the leaders said they will “reassess the adequacy” in March to see whether more funds are needed.
That leaves the metaphorical bazooka unloaded, analysts said Monday.
“The risk is clearly that the continued threat of breakup creates massive capital flight that does more damage than any benefit from the gathering reform process,” analysts from J.P. Morgan wrote.