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Italy’s borrowing costs fall in bond sale

Italy overcame a barrage of grim European and Italian economic data to sell sovereign debt at a non-crisis interest rate, a rare bit of good news for a country with the biggest debt load in the euro zone.

Tuesday's successful bond sale was the first since the European Central Bank began buying Italian and Spanish debt in the secondary market on Aug. 8, shortly after the bond yields of the two countries rose to near-distress levels of about 6 per cent. Greece, Ireland and Portugal all required bailouts not long after their bond yields reached 7 per cent, a level considered unsustainable.

It came as the governor of the Bank of Italy warned that Italian growth would remain weak, and as the European Commission's economic sentiment index plunged, indicating that that fears of a double-dip recession are rising.

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Italy's Treasury sold €3.75-billion ($5.3-billion) of 10-year securities at 5.22 per cent, compared with a rate of 5.77 per cent for the sale of similar bonds in late July. It also sold almost €3-billion of bonds due in 2014. Some traders believe the ECB, which never reveals when it is stepping into the market, bought Italians bonds immediately after the auction.

Still, the falling yields on Italian debt, and also Spanish and Irish debt, was considered encouraging news by economists and strategists. "That's a positive indication that the contagion effects from Greece are losing strength," said ING Bank credit market strategist Alessandro Giansanti.

For the Italian Treasury, the only disappointing news was that demand for the bonds was less than expected, suggesting that many investors remain convinced that Italy, saddled with €1.6-trillion of debt, could still face funding problems. A bigger test comes in September, when Italy must roll over about €46-billion of bonds.

The Italian bond sale was all the more remarkable in that it came as the centre-right government of Prime Minister Silvio Berlusconi backed down on a couple of key measures in its €45.5-billion austerity program, approved two weeks ago. The program came at the insistence of the ECB.

Under pressure from his coalition partner, the Northern League, the government scrapped the tax on high-income earners, known as the "solidarity contribution." Funding cuts to local and regional governments will be scaled back. The government said the changes would be balanced by new measures to combat tax evasion and by closing some tax loopholes, though some analysts were not convinced that the overall value of the austerity package would remain intact.

On Monday, the deputy director of the Bank of Italy, Ignazio Visco, warned that Italy's austerity programs should rely less on tax increases and more on making the economy and the labour markets flexible. As it stands, he said, the Italian economy faces a period of extremely low growth that will jeopardize the country's budget-balancing efforts.

"We are risking a phase of stagnation, which would slow the decrease in the debt burden," Mr. Visco told a Senate hearing on Tuesday. "Balancing the budget has to be combined with economic policy aimed at reviving prospects for growth in our economy."

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The wider euro zone may face stagnation too, if the EC's latest economic sentiment index is any barometer. The index is based on surveys of sentiment across the economy, from manufacturing to retail, in all 27 European Union countries. Tuesday's figure marked the biggest month-on-month fall since December of 2008, when the financial crisis was near its peak.

Germany, the euro zone's economic engine, showed the biggest drop in sentiment (minus 5.7 points), followed by Britain (minus 5.6 points). Surprisingly, the drops in Italy and Spain were small.

The plunging index has convinced some economists that European growth is slowing and may result in a recession.

"All in all, the current level of the economic sentiment indicator, if confirmed in September, probably indicates that the recovery in the euro zone has come to a standstill," said ING economist Peter Vanden Houte. "While the peripheral countries are already flirting with recession, it is important to notice that core countries are now also experiencing a sharp slowdown."

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About the Author
European Columnist

Eric Reguly is the European columnist for The Globe and Mail and is based in Rome. Since 2007, when he moved to Europe, he has primarily covered economic and financial stories, ranging from the euro zone crisis and the bank bailouts to the rise and fall of Russia's oligarchs and the merger of Fiat and Chrysler. More

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