Italy Is Seeking to Sell ‘Significant’ Amounts of Bonds to China, FT Says
China Investment Corp. Chairman Lou Jiwei was in Rome last week for discussions with Italian Finance Minister Giulio Tremonti and Italy’s Cassa Depositi e Prestiti, a government entity that has established an Italian Strategic Fund open to foreign investors, the FT said, citing unidentified Italian officials.
Italian officials met China Investment Corp. and the country’s State Administration of Foreign Exchange, which manages most of China’s $3.2 trillion foreign exchange reserves, in Beijing two weeks ago, the newspaper also said, while Italy’s Head of Treasury, Vittorio Grilli, met Chinese investors in the Chinese capital in August, the FT reported.
Oh wow. This is all kind of shadowy for now, but in the meantime investors are suddenly way more confident since this makes it somewhat less likely there’s going to be a major crash in Europe in the next week or two. Here’s the scenario that everyone was so worried about.
- It’s basically basically inevitable at this point that Greece defaults, as they’re not meeting the conditions of the bailout package, and austerity hit their economy really badly, and at least half a dozen eurozone countries (including Germany) are getting really tired of shovelling money into the Greek government.
- This would put massive pressure on the banks that are holding all the (now mostly worthless) Greek debt, and had been counting on interest payments from the Greek government to meet other obligations. Those banks would likely have to reduce their lending substantially, as they’d be unable to easily convince investors to give them more cash.
- At the same time, investors would panic about holding debt from highly-indebted eurozone countries, as it would be clear that the ECB and the IMF and the eurozone governments weren’t willing to back everyone up to the hilt.
- Steps 2 and 3 would add up to serious borrowing troubles for highly-indebted eurozone countries, especially Spain, Portugal and Italy. Borrowing costs for these countries are already very high, and if investors and banks aren’t willing to buy their bonds then they’re going to face even higher borrowing costs and maybe even default themselves.
- If Italy or Spain gets to a point of being unable to continue to sell bonds on the market (even with the ongoing ECB support) then there’s a serious problem, as it’s not possible to bail these countries out like Greece or Ireland or Portugal. Especially Italy - it’s the third-biggest eurozone economy, and has the third-largest sovereign debt in the world after the US and Japan. So really there is no way the eurozone could rescue Italy from default, and everyone knows this.
- If Italy defaulted, the same thing with the banks’ capitalization and the investor panic (steps 2 and 3) would happen again, but on a way larger scale. Global interbank lending markets would seize up, like in October 2008 - except this time, many governments would lack the resources to step in and fix things. Widespread wipeout of the banking sector, and depression ensues across the industrialized world.
So that’s pretty bleak, right? But now, it looks like the Chinese government is going to step in and buy up a bunch of Italian government bonds. Right now, the bonds are selling for pretty cheap because everyone is worried step 5 in the scenario above. However, if the Chinese government sunk a few hundred billion euro into Italian bonds (there’s about €1.8 trillion, or US$2.5 trillion, in outstanding Italian government debt) then the Italian government’s financial problems would be fixed (for now) and the value of their bonds would rise. The Chinese government makes these assets more valuable, just by buying lots of them.
It’ll be interesting to see whether Italy is required to post some sort of collateral or anything. Also, it’s basically unavoidable to interpret such a deal as not infringing on Italy’s sovereignty a little, because the Chinese government could sell off these bonds any time they wanted and create serious headaches for the whole eurozone. The whole concept is really well-played on China’s part, anyway.
![[all data from Eurostat]
So far, the eurozone has had to rescue the governments of Greece, Ireland, and Portugal when those governments racked up too much debt for investors to be willing to lend anymore. Now, Spain and Italy are heading in the same direction. As you can see above, that’s going to be a little more painful for the eurozone to handle, because Spain and Italy are way bigger economies. (I’ve included Germany for comparison, as they are the largest eurozone economy and basically the only one that’s growing steadily, and would accordingly be expected to foot most of the bill for any future bailouts.)
Americans can think of it like this: the eurozone bailing out Greece would like the US bailing out Maryland. The eurozone bailing out Italy would be like the US bailing out Texas and New York at the same time, after having already bailed out Maryland (and a couple other small states). Even if there was political will, there’s probably no feasible scheme for the eurozone governments to raise the cash.
Not helping at all is the fact that the European Central Bank, unlike other central banks, has no tradition of independence from political pressure. This is really important for a central bank, because the issues it deals with are big long-term problems where there are often ways to make things go awesomely in the short run that will end up being terrible in the long run. (As an example, think of a situation where the government starts printing money to finance lots of impressive projects six months before an election. It will look great at first, but then inflation will kick in.)
In Canada or the UK or the US, the central bank gets total independence from the rest of the government. In the eurozone, many countries don’t seem to understand how this works. Previously they demanded that an ECB governor resign from his job so that the ratio of French governors to Italian governors could be preserved (and he eventually acquiesced). Now they’re demanding that the EBC buy up Spanish and Italian government bonds in huge numbers to drive down those countries’ borrowing costs, despite the fact that this would cause massive inflation throughout the eurozone. This sort of pressure wouldn’t fly anywhere else in the world, since it seriously limits the ability of the ECB to respond in a crisis situation, but apparently European politicians feel they need to put on a show of not trusting the institutions they themselves created.](http://25.media.tumblr.com/tumblr_lpki9uB5OO1qzmus0o1_400.png)
