mario montiItalian Prime Minister, Mario Monti, announced sweeping austerity measures and reforms, bolstering confidence in Italian sovereign debt markets. Monti’s plan includes tax increases, government spending cuts, pension savings and raising the retirement age. Italy needs to enact these reforms over the next couple of years, and there are some political risks to implementation, but the immediate market response is positive for this round of announcements as opposed to the cynical reactions in the summer and fall. Italian 10-year borrowing costs dropped from 6.68% to 6.10%. While it is dangerous to extrapolate any daily changes in sovereign debt yields due to the vagaries of European markets, this change is driven by a major announcement which would impact actual fundamentals (again if implemented) and the change in yields is simply a very large magnitude. Italian borrowing costs have dropped about 9% overnight.

There will be a number of additional announcements coming out of Italy and the Eurozone this week. Monti’s reforms, which are aimed at boosting competitiveness, will be presented to EU policy makers in Rome today. The ECB will have their scheduled meeting on monetary policy and the subsequent interest rate announcement on Thursday. I believe that the sequence of events begins to build cover for the ECB to take a more activist approach managing the EU-17’s sovereign debt crisis. This change in posture has been subtly telegraphed. The decline in sovereign yields isn’t unique to Italy and has spread across Europe this morning with substantial interest rate declines in: Spain, France, Belgium, Austria, and Slovakia. Spreads to German bunds have narrowed even more than the declines in interest rates as German 10-year rates are up 5 basis points.

The European financial crisis has been all encompassing for a long time now. Markets rallied strongly over the past week based on hope that Europe’s crisis can be contained and Eurozone breakup risk will diminish. The global economy is surprisingly resilient despite Europe’s crisis and subsequent economic slowdown. Markets around the world are broadly lower this year while global GDP growth and corporate earnings have been strong. If the big picture news from EU governments and the ECB can remain constructive, the strong rally in the markets can continue. Normalization of depressed valuations causes powerful and sudden moves higher.

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  1. miltonf on December 5, 2011 at 8:08 pm

    The big question is whether or not these reforms will actually be implemented or if the countries will continue to make up the numbers as they have in the past and go about with business as usual. Note the widespread rebellion in Greece about having electricity turned off if they don’t pay their taxes. That’s the only way this will have a positive effect over the longer term. If not, the relief we are seeing is just temporary

  2. crackerjack on December 5, 2011 at 11:14 pm

    in agreement with you – the reforms need to be implemented over a number of years (not just talked about). Will certain EU citizens grow weary of austerity as they implement reforms during a recession? This dynamic will be the longer-term risk/unknown.

  3. Demata on December 6, 2011 at 2:49 pm

    It is amazing how Italian press does not get up a complaint or a negative thought about the financial plan that Monti & co. want to impose to Italians, today, and the French, tomorrow who knows, standing the “feeling” showed for “Mario”.
    All happens while on television, typically consociational, we listen, conversely, negative comments – sometimes caustic – by experts and politicians.

    A financial plan that is an hypotesis, maybe a promise, maybe an illusion.

    A problem of effective democracy, which is combined with the use of a Government Bill, which cut off parliament, and the many and serious conflicts of interest faced by this government. Serious and very serious, such as the President of newspaper publishers who is also Deputy Minister to publishing.

    Do not be stupified if you read in the newspapers very little of what Italians know by television from comments of technicians and politicians. As we cannot forget that this government has no experience about government, democracy and governance.

  4. Demata on December 15, 2011 at 10:59 am

    There are three most alarming aspects of the financil plan that Mario Monti is going to implement in Italy. Bye

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