Yields at fresh bond auction dash Italy’s hopes of quick economic recovery

Hopes that the economic crisis seen to be looming over Italy was receding were dashed yesterday as Rome's long-term borrowing costs shot above 7 per cent, an interest rate widely regarded as unsustainable.

The Italian government sold €2.5 billion of 10-year debt at an interest rate of 6.98 per cent, down from 7.56 at a similar auction last month. However, traders pushed Italian 10-year debt above the 7 per cent level. This was the first auction of Italian government paper after the administration of Mario Monti pushed through an austerity package earlier this month. Analysts said the auction put paid to hopes of revival of investor confidence in the solvency of the Italian government.

Demand for the bond issue too was far from encouraging, with the total €7 billion placement of notes falling well short of the Italian government's upper target of €8.5 billion.

Italy's short-term borrowing costs were down to half earlier this week, with the government selling €9 billion worth of six-month bills on Wednesday at an average yield of 3.25 per cent (down from a euro-era high of 6.5 per cent last month). The development buoyed hopes of the debt market's faith in Italy picking up. However, with 10-year bond yields being the more critical measure of confidence and the fact that Italy's long-term borrowing costs still hovered around the 7 per cent mark, Italy remained firmly in grip of a financial crisis.

Monti, while welcoming the offloading of the latest tranches of sovereign debt, admitted that his government had not yet won the confidence of investors. He added that though auctions held yesterday and today had gone rather well the financial turbulence was not over.

Italy needs to roll over a total of €440 billion in the bond market in 2012 to avoid defaulting on its €1.9 trillion sovereign debt pile. Though the Italian parliament had approved an austerity package proposed by Monti calling for €33 billion of tax hikes, pension reforms and spending cuts, according to most economists, Italy was already sinking back into recession.