During the past few weeks in Europe, there are a lot of rumors circulating about the new Italian government. Furthermore, the spread between BTP (Italian bond) and Bund (German Bond) is widening, putting the Italian economy under pressure of the market and decreasing the Italian government power. The worst fear of the markets is the growing possibility of “Italexit”, the possible exit of Italy from the European Union, which is being fueled by the widening spread.
The fear is exacerbated by the price predictions of the CDS, the credit default swaps.
Currently the prices of CDS – contracts to insure against a possible debt default – mark a low probability for the insolvency of Italian public finances. However, if “Italexit” were to happen and the country were to return to its previous currency, the Italian lira, the prices of CDS contracts would increase by 14.2% to 23.8%, demonstrating that the reassurances of the government in recent weeks have not been enough to convince and placate investors.
The percentage of 23.8% is calculated using a potential devaluation of the Italian lira of 30% and a correlation with the credit default of 50%. “The markets are not Nostradamus. Often the predictions are wrong, but the problem does not change: at the moment this is their perception and right or wrong that it is on this perception that investors base their choices”. The media is showing concern for the situation in Italy, discussing several other problems plaguing the new government, such as the clash in progress with the European Commission on the Italian Budget Law and the deficit for 2019.
According to the commentators, the situation could trigger the exit of Italy, the third biggest economic power of the Eurozone, from the block of the single currency, Euro, and the European Union as a whole. However, the Italian government has expressed a deeper interest in changing the modus operandi of the European Union than an “Italexit” because an “Italexit” would be the end of the European Union, at least from a financial point of view.
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