Euro zone loses appetite for Italian Pizza!!

The year 2009-10 gave birth to a new abbreviation which increasingly became more and more important for the World economy. That abbreviation is PIIGS - Portugal Ireland Italy Greece and Spain. A pig is generally considered to be a dirty unwanted animal and so is this PIIGS too.  

While Portugal and Ireland managed to get some bailouts and survive in 2010, Greece which was a bigger mess, does not seem to be all that lucky. The EU, IMF and G-20 has asked the Greek government to adhere to the austerity measures imposed upon it. I don't know whether the austerity measures would have any impact on the finances of the country, but it really did change someone's life - the Greek Prime Minister's, who had to resign under pressure. France and Germany with their heavy exposure in PIIGS, were forced to come to the rescue and also form the EFSF (European Financial Stability Facility) and convince G-20 and IMF about the bailout needed for Greece. For the time being it seems Greek default has been averted though.

When the world was taking a breather from the Greek drama over the past few weeks, Italian bonds seem to have given a rude awakening to the World at large. Italy is a much bigger economy than Greece and any run on the Italian bonds would be in effect a test for the survival of the entire European Union. France and Germany are not in a position to bailout Italy. I feel Italy may need to exit the Euro zone and revert to its own national currency to resolve its debt crisis, thereby forcing the break-up of the Euro zone.

With yields on its sovereign debt hovering around the 7% mark, market access may become limited for Italy. A forced restructuring of its debt could help solve some of its issues, but it would not address other issues that hamper the Italian economy such as a lack of competitiveness, a large current account deficit and lower gross domestic product. 

Neither the EFSF nor the IMF is in a position to bailout larger economies like Italy. Issuing more bonds in the Euro zone by the EFSF would lead to a larger pandora's box which would create bigger problems in the years to come. Its like a gigantic leveraged CDO being financed by the better performing nations and large emerging economies. Its a recipe that would leave a bad taste in the mouth. 

As I had mentioned in my previous blog why government austerity measures are not a great idea Italy is facing recessionary pressures on account of the cut in government expenditures. This would definitely make the high sovereign debt unsustainable. The only way to avoid a breakup of the Euro zone would be for the European Central Bank to become a lender of last resort, for a fall in the euro's value in line with the dollar and for fiscal stimulus for the "core" euro zone and austerity in the periphery to take place. Till this takes place, it seems Europe's fancy with Italian Pizza is done for the time being!!