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Contagion fears high as Italy drawn into crisis

November 29, 2010

By Richard Milne and David Oakley in London and Guy Dinmore in Rome, published: November 29 2010

Markets gave the thumbs down to Ireland’s €85bn bail-out on Monday as the euro slid and Italy was drawn into the crisis for the first time as its borrowing costs shot up.

Contagion fears remained high in the eurozone with Italy, Portugal, Spain and Belgium all seeing their market interest rates rise. Investors fretted that the permanent mechanism for future crises unveiled on Sunday by the European Union had increased the risk of a default by a eurozone country.

Robert Parker, senior adviser to Credit Suisse: “What you are seeing is a transfer of risk from governments to investors.”

The focus was on Italy and Spain, two of the eurozone’s largest economies, which are dubbed by some investors as “too big to fail”. The premium both countries pay for their debt above benchmark German interest rates rose to a fresh high since the introduction of the euro a decade ago.

Italy saw some of the biggest moves of the day as it held a €6.8bn debt auction but paid half a percentage point more than a month ago. Yields, or market interest rates, on its two-year bonds rose more than 10 per cent to 2.8 per cent.

Alan Wilde, head of fixed income and currency at Baring Asset Management, said: “The crisis is not abating. The euro is being hit and Italy has now been drawn in with a big fall in its bond markets for the first time.”

The euro fell 1.1 per cent to $1.31 against the dollar. Equity markets were also hit with the FTSE Eurofirst 300 down 1.6 per cent and the Dow Jones Industrial Average off 1 per cent.

Italy has the largest amount of debt outstanding in Europe with €1,300bn but its centre-right government is on track to trim the budget deficit to 5 per cent by the end of this year. Markets remain concerned that the troubles of prime minister Silvio Berlusconi could lead to political uncertainty with repercussions for his austerity programme.

“A crisis of credibility, which would scare markets and international investors, would quickly take us along the same route as Greece and Ireland,” Mr Berlusconi said in a video message.

The news came as ­Ireland’s central bank governor revealed it had held off taking action against bank bondholders in return for the European Central Bank continuing a “liberal attitude” to its financial system.

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