Home > Uncategorized > Italian situation is highly worrisome!

Italian situation is highly worrisome!

Considering the present architecture of the Eurozone – there is according to Erwan Mahé no obvious way to solve the Italian Euro crisis…

From: Erwan Mahé

I sent this little collage on 25 May, via IB Bloomberg chat, as the BTP began to decline, since it seemed to sum up the best attitude to take towards the near hysteria afflicting the Italian debt market at the time.


From a high of 132.88 on Monday 25 May, it plunged to as low as 120.10 the next day, reflecting a full one per cent rate shift on the eurozone on the 10-year maturity! Lucky for us, the trade we flagged on Tuesday 29 May on the 2-year Italian maturity, with a bloc of 14,000 2-year futures (i.e. 25% of usual BTP daily volume!), fell 1 point below market price in the wake of rumours about huge losses at some carry funds, allowing us to identify a very useful inflexion (or capitulation) point, because the BTP began a continuous upward shift, reaching a high of 130 on 4 June. The point of this update is not to brag about our stroke of luck on a totally disjointed market but to emphasise that we have nothing against the Italian market; we just need to adapt to changing circumstances.

*Disclaimer: I have held Italian zero-coupons for years now, given their low nominal cost and they could be a real wild card in the event of restructuring, as the Greek situation taught us.

Truth be told, the problem with Italy is not the size of debt-to-GDP; the traders who harp on this point are the same ones who have hung themselves ten times over by shorting Japanese JGBs for the same reason. Anyone notice that S&P upgraded Japan’s country rating to A+ in April? What worries me is that, although its ratio is well below that of Japan, Italy (the eurozone) unfortunately does not benefit from the same fiscal-monetary architecture as Japan and remains under threat of the same self-fulfilling prophecies and “doom loop” that ravaged Europe in 2011-2012. The fact that the 2-year Italian maturity was able to rise 2.50% in two days on a market where it had become impossible for clients to find decent prices (the Italian bond market is the world’s third biggest in outstanding volume) is a flagrant demonstration of the ECB’s inability today to make its monetary transmission channel perform uniformly on the eurozone once markets begin to doubt a member state’s credit (which, in this case, mean the threat of re-denomination).

We had examined, at the time of the European debt crisis, the monetary transmission channel concept in several reports dedicated to the matter and by reconstructing a 2-year eurozone synthetic bond, which allowed us to monitor directly the efficiency of said transmission. I provide, below, an updated graph displaying the evolution of this synthetic 2-year euro bond, which still excludes Greece

Eurozone 2 Year synthetic «Sovereign»


Based on the graph, the rise in the 2-year maturity in recent days, although notable, does not seem so catastrophic. However, this synthetic illustration poorly reflects the reality of monetary policy transmission throughout the eurozone, because it masks the important country-by-country dispersion of said rates, i.e. the evolution of spreads between “sovereign” issuers. The governments of the eurozone do not benefit from tax transfers, unlike in the United States. Harmonised and pooled unemployment insurance alone would make it possible to soften the blow from domestic economic shocks whilst leaving room in the budget to carry out thorough-going structural reforms.

The current discussions between partners do not really seem to be going in this direction, with short-term political considerations always taking precedence over the longer-term solutions, given the electoral cycle of each country. Ideally, we could calibrate monetary policy, since it is the sole remaining leverage, in keeping with the macroeconomic situation of each eurozone country. Aside from the levels of inflation, the output gap (between unemployment and growth) should also be considered. Such an approach would lead to far more accommodative monetary policy in Italy where the latest HICP put May inflation at +1.1% and the unemployment rate at more than 11%, including 33% for those under 25.

It would be far more restrictive in Germany where inflation is 2.2% and unemployment 3.40%! Unfortunately, the recent movement of yield spreads between countries linked to this fear of re-denomination, or even restructuring, runs in exactly the opposite direction. I am also talking about restructuring risk and thus of partial default, because the promises of 2012 according to which there would never again be an organised default like in the Greece case don’t have any more credibility than those made in 2010-2011 (Trichet, Sarkozy) according to which Greece would never be allowed to default!

Ms Merkel’s comments in her FAZ interview this Sunday, relating to Mr Macron’s proposals for Europe, will hardly reassure us on this point. Check out the illustration of this phenomenon in the following graph

Italy & Germany 2 Year Yields


I am even going to give you another graph, which reflects even better this paradoxical dispersion phenomenon.

5 Years Real Yields, Italy & France


I could have created the same graph, displaying even greater divergence, with Italy and France, but this one underscores just how much France has pulled its chestnuts out of the fire. All in all, what is happening now seems very worrisome from a macroeconomic standpoint, and I do not see a top-down way out of this situation. I don’t think the ECB, focused on how to exit from the QE, can put into question its projected hardening of monetary policy just to please Italy without taking into consideration the nationality of its outgoing president. For that to happen, the 2-year synthetic bond would have to rise even more and, subsequent to tensions on credit markets and on the financial soundness of the eurozone’s lending institutions, financial conditions on the eurozone would have to worsen to such an extent that the ECB would feel the need to intervene.

But intervene how? By lowering its benchmark rate, which are already at the limits of what the financial system can bear? By re-launching the QE on a large scale whilst it must already contend with capacity constraints, in particular on German bonds? By recalibrating the QE to direct the spreads, like in the still murky OMT framework, which requires the recipient country to be put under trusteeship whilst Italy has just voted in a government adamantly opposed to trusteeship? I must admit that I don’t have satisfactory solutions at this point. We will again be surprised by the future. In the meantime, I look forward to hearing your feedback, including criticisms and suggestions!

As always, feel free to contact me about these matters.

The Macro Geeks’ Corner (MGC)

I have found time in recent weeks to assemble no small number of decent reads. Check them out!

Completing the Odyssean journey of the European monetary union

Vitor Constancio, 16 May 2017


Thomas Palley, April 26, 2018

The persistence and signalling power of central bank asset programmes

Benoit Coeuré, 23 February 2018

Money, Power, and Monetary Regimes

Pavlina R. Tcherneva. Levy Economics Institute of Bard College March 2016

Reverse Speculative Attacks

Federal Reserve Bank of Minneapolis Staff Report 528 May 2016

Communicating the complexity of unconventional monetary policy in EMU

Peter Praet, 15 November 2017

  1. Prof Dr James Beckman, Germany
    June 9, 2018 at 12:30 pm

    For a business consultant, the prescription to get down to work, legally. How can a nation advance if its business model is way out of date by the standards of, say, Switzerland, Netherlands or Singapore? Or Spain, Portugal or Turkey? Seems to me no one wants to hear anything but “Our business is and our investments are”.

  2. Helen Sakho
    June 10, 2018 at 3:28 am

    In plain English: the poor must “mind their own business” (always non-existent globally); The ultra rich have too much income and wealth to care about anyone else’s business or their own; and those in between may choose to remain “confused” or look up to the richer with envious eyes; the working poor are too poor and preoccupied with “making end’s meet” to even think about the “complications” associated with exchange rates, value for money and business worth; all they can afford to care about is staying well enough to hopefully make it back to work the next day. And for the dirt-poor, it has always been “business as usual,” now increasingly global.

    • Prof Dr James Beckman, Germany
      June 10, 2018 at 6:24 am

      Hi, Helen, culturally the writers here must come from different nations—and that is good, I think. I was raised in America, where the poor are supposed to get out of poverty largely on their own. For 16 years I have lived in Denmark & Germany, where the poor can remain out of the work force (if they’re clever) & still have basic necessities. My Polish-German wife was raised under the Russians, where everone had to work & therefore had at least a minimum living. Etc.
      My response to the Italians is, “Where is your growth plan, where with all your talents & pockets of weatth as a natiion, the private sector with some public support can lift most individual economic boats.” Culturally, the Italians seem in no way up to that at the moment, it seems to me.

  3. Helen Sakho
    June 10, 2018 at 2:14 pm

    Dear Prof Dr Beckman, some of us do have extremely complicated backgrounds. I think you and I have had similar discussions before.
    Multi-lingual people are “blessed” to have access to a multiplicity of cultures and histories. As someone who struggles simultaneously with over 10 languages or so, but does appreciate the dominant language at this point in human history is ENGLISH and we do all speak it for now, I suggest we all visit the historic British comedy series “Mind Your Language” where all nations and peoples and backgrounds mix and mingle while learning English. I hope you do not mind this comment too much.

    • Prof Dr James Beckman, Germany
      June 10, 2018 at 2:43 pm

      Thanks for the clarity, Helen. I had a friend in grad schol, a Polish engineer by training, who spoke 32 American Indian tongues. Like any artist of the ear, to coin a phrase, both you & he have gifts which of course have downsides. Since we all have downsides, I suppose mine is an extremely religious upbringing, which of course makes ethics paramount.
      I do however have more than 40 years living in various places in the world, but due to my hearing impairment speaking none other than English well. My wife & I do German, although her first language is Polish & her second was Russian. My Chinese colleagues want me to commence Mandarin, which I would do only if Ihad enough time to absorb their most professional efforts.
      Thus, my multiculturalism comes from living with, as girlfriends in Hong Kong & Japan, or as neighbors in over a hundred countries for at least 3 months. Far more in some & now 16 years in Germany, Denmark & Poland. Trained also at the Doctoral level in anthropology, I guess I have some credentials–but certainly not multilingualism. Teaching & business consulting are my chief conduits to cultural insignts.

      • Edward K Ross
        June 13, 2018 at 3:30 am

        In response to Helan Sako and Prof Dr James Beckman Germany I am pleased to read of your interest in Anthropology because from my simple understanding if economics is about people then understanding how peoples culture affects their thinking logically becomes an important part of economic thinking. As I have previously mentioned I before I had to leave school at fourteen years of age. Later I managed to achieve a mature age B.A. graduating on my sixty fifth birthday, with as I understand it, with majors in Anthropology, third World development Archaeology. Furthermore my wife and I volunteered to go to a remote part of the west Sepik of Papua New Guinea in late 1960. In our early days there we seldom saw other English speaking people ,the common language to communicate with the people was Pidgin English although in our local area we were often working with eight to ten different languages. In total we were in PNG for twelve years from this experience I believe it is one thing to learn a language but it is another thing lo learn how that language is used and what meanings are attached to the language. Our work involved health services, teaching raising cattle, protein crops and education. Obviously this required not only learning the language and how it was used but also creating a measure of respect between them and us that allowed us to have meaning full conversations. From this background I have a strong belief in the importance of meaningful conversations between economists and the public regardless of their leval of education. Ted

      • Prof Dr James Beckman, Germany
        June 13, 2018 at 7:29 am

        Hi, Edward (Ted), you have done great service both for yourself & others! One of the themes of many discussants here has been mutual respect. You exemplify that in my mind!
        I’ve done field work—as contrasted with tourism, teaching or consulting–in many places. The most lasting effects on me have been the jungles of West Africa & Latin America (technology differences to start the learning) & Asia (cultural differences with people on a similar tech level).
        Along the way I have met many missionaries & Peace Corps’ folks who have also done outstanding work for others while enlightening themselves. Good lives to all of us!

  4. Helen Sakho
    June 10, 2018 at 4:51 pm

    Thank you Prof. Unfortunately, my own main problem apart from above-mentioned mainstream languages, is that like your native American friend, I too speak some 20 or so native dialects from the four corners and rivers of another ancient land and beyond. I am not just an Economist, but proudly a Political Economist. But the biggest main problem for me remains that as an Urban Planner with all the associated difficulties such as disputes, wars and legal/illegal occupations of lands and boarders, I confess that all I ultimately care about is PEACE. That is all that has ever mattered in the end.

    As you mention private affairs, let me just say here that some of us were brought up by almost secular Russian-born Orthodox Christian parents, who nonetheless prohibited us from having any boyfriends or affairs of any kind. This is a public domain, so that is the end of this simple bit for me.

    All the best with any health problems that you or other colleagues might be experiencing.

    • Prof Dr James Beckman, Germany
      June 10, 2018 at 6:02 pm

      Again, thanks for sharing, Helen. Of course, many of our colleagues in any one discipline have a simpler time in their cognitive domain, but problems in trying to put those academic models to work in the everyday world, as you know. As in your job, I presume, with all its conflicts, you walk the walk & talk the talk, but sometimes you might want a simpler life.
      For any other matters, “happybim@hotmail.com”. My father was a psychiatrist & I originally was serious about becoming a Presbyterian Minister at the Princeton Theological Seminary. Guess we all have to relax in a complex & highly emotional world.

  5. Helen Sakho
    June 17, 2018 at 2:34 am

    Oh, you’re welcome.
    In that case, may I strongly recommend anyone in similar positions to watch “Father Ted” or “Dave Allen” (both departed at a very young age, both ingenious dark satire artists) for all that religion has offered Ireland and the rest of the world.
    Or for a scientific version of reality, paying a visit to UCL, one of the top universities in the world, founded by someone whose religious fundamentalist father (from Cambridge) disowned him for founding the “Godless” institution. I will not bother the uninterested with the detailed background, as it can easily be looked up.

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