The “lords of the spread” are angry.
Matteo Salvini andÂ Luigi Di Maio keep insisting that markets will eventually forgive their decision to flout E.U. budget rules and run roughshod over Finance MinisterÂ Giovanni Tria, but things just keep getting worse.
Italian assets came under immense pressure starting two Fridays ago whenÂ Salvini threw his support behindÂ Di Maio’s 2.4% deficit target for 2019, a figure that is well in excess of the 1.9% line in the sand Tria attempted to draw. Italian bonds and stocks got a short reprieve last Wednesday whenÂ CorriereÂ dellaÂ Sera reported thatÂ Italyâ€™s draft budget plan will include plans to slash the deficit to 2% by 2021. According to those same reports, Italy backed down from a plan to keep the deficit at 2.4% when the E.U. applied more pressure. The deficit will be 2.2% in 2020,Â Corriere said.
But the relief would not last and news that the E.U. has rejected Italy’s budget has precipitated another bloodbath on Monday.
â€œItalyâ€™s revised budgetary targets appear prima facie to point to a significant deviation from the fiscal path commonly agreed by EU governments,” EU Commissioners Valdis Dombrovskis and Pierre Moscovici wrote, in a letter toÂ Tria.
BTPs were crushed on the news withÂ December futures hitting fresh low since becoming the active contract.
10-year yields for Italy breached 3.50% for the first time since 2014 today.
The BTP-bund spread (which Salvini loves to malign as the product of an anti-populist conspiracy), ballooned out to 307bps, the widest since May of 2013.Â It’s blown out some 80bps over the past couple of weeks.
Predictably, Italian financials are getting crushed again. TheÂ FTSE Italia All-Share Banks Index is down more than 4% and has fallen more than 17% during the latest round of budget-related turmoil.
Over the weekend, Di Maio insisted that next yearâ€™s European Parliamentary elections are going to be anÂ “earthquake” for proponents of austerity. Amusingly, those comments came while he was en route to Berlin. I’m not sure that’s the best way to let Germany know you’re ready to have an honest chat about the economy.
Meanwhile, Salvini decided this was a good time to hang out with Marine Le Pen. Here’s what he said while sitting right next (Get it? “Right” next?) to the French Nationalist in Rome:
We are against the enemies of Europe — Juncker and Moscovici — shut away in the Brussels bunker. The politics of austerity of the last few years have increased Italian debt and impoverished Italy.
Needless to say, just about the last thing Italian assets needed amid the budget boondoggle was a public event featuring Salvini and Le Pen. To be clear, there’sÂ never a “good” time to be seen in public with Le Pen, but joining her in an anti-Brussels screed during the middle of a budget fight and on a day when Italian stocks and bonds are bleeding from the eyeballs is about the worst idea imaginable.
â€œWe fight against the European Union, it has become a totalitarian system”, Le Pen said, joining Salvini in chastising what they swear is a gang of nefarious “eurocrats” hell-bent on restoring a feudal system across the European periphery.
Make no mistake, Salvini and Di Maio are gambling here. They are betting that their belligerence won’t end up catalyzing the kind of self-fulfilling prophecy that would cause bond yields to rise so high that ratings agencies end up downgrading Italy. If that happens, it would trigger a wave of selling which could in turn reinforce the negative debt dynamics and raise the specter of further downgrades at which point Italian debt could lose eligibility for ECB programs, etc.
At that point, anyone still long Italy is going to end up like Jimmy in the phone booth…