Italy-Germany bond spread hits highest level since 2013 over EU budget dispute

REUTERS/Kacper Pempel

• The spread between yields on Italian and German bonds
  climbed to its highest level in almost five years on
  Friday.
• Gap between German 10-year and Italian 10-year now
  stands at almost 3.4 percentage points.
• Widening of spread comes as Rome and Brussels clash
  over Italy’s proposed budget, which proposes breaking EU
  spending rules.

The spread between yields on Italian and German bonds climbed to
its highest level in almost five years on Friday as a row between
Rome and Brussels over the country’s budget threatens to boil
over.

European Union authorities on Thursday rejected budget
proposals put forward by Italy earlier in the week, accusing
the eurozone’s third largest economy of an “unprecedented” break
of EU rules around spending and deficit limits.

Citing Italy’s plans to increase spending and its deficit, and
allow its government debt to remain elevated, the European
Commission said the country is trying to undertake “a
particularly serious” breach of the rules.

“Those three factors would seem to point to a particularly
serious non-compliance with the budgetary policy obligations laid
down in the Stability and Growth Pact,” said a letter to Italian
finance minister Giovanni Tria, which surfaced late
Thursday.

“Moreover, with Italy’s government debt standing at around
130% of GDP, our preliminary assessment also indicates that
Italy’s plans would not ensure compliance with the debt criterion
benchmark,” it continued.

The rebuke has heightened tensions between the two parties,
with a confrontation looking more and more likely. That potential
outcome has spooked investors, pushing the spread
between Italian and German 10-year bonds to its highest
since 2013, at the tail end of the eurozone debt crisis.

On Friday morning that spread stood at 3.4 percentage
points, an increase of close to 50% from levels seen in late
September.

The chart below illustrates the extent of the recent
increase in the spread:

Investing.com

Germany’s government debt is widely seen as being one of
the safest investment vehicles on the planet, thanks to the
country’s staunch commitment to running a budget surplus. Italy,
on the other hand, looks less and less stable, pushing bond
yields higher.

For context, the budget proposes increasing
both Italy’s overall government debt and its deficit in the short
run, pushing the deficit as high as 2.4% of GDP over the
coming years. This means Italy will fall foul of a previously
mandated maximum deficit level of 0.8% of GDP.

Italy was asked to amend its budget by eurozone authorities
before submitting it, and was told that the proposals
represent “significant deviation” from its mandate. It refused to
do so, with the Italian parliament voting to approve the
proposals on Monday evening.

Matteo Salvini, the leader of the Northern League, one
of the two coalition partners in the Italian government, has made
clear that the government plans to go ahead with the
implementation of its budget proposals, regardless of any
opposition from Brussels.

“If Brussels says I cannot do it, I do not care, I will do
it anyway,” Salvini
said last week, referring to the budget’s
implementation.

Italy has until Monday to respond to the Commission’s
findings.