Italy’s Borrowing Costs Fall, but Pressures Remain High

Last week, Mr. Monti won final approval of a $40 billion spending package that includes tax increases and a pension change aimed at eliminating Italy’s budget deficit by 2013. But with Italians starting to feel the pain and dissent growing in Parliament, he must act swiftly to stimulate Italy’s economy, which is already in recession and is expected by some forecasters to shrink in 2012.

On Wednesday, the day his cabinet met to discuss measures to spur economic growth, Mr. Monti appeared to receive some breathing room when interest rates on six-month Treasury bills, a barometer of investor worry about Italy’s creditworthiness, dropped in half to 3.2 percent and rates on 10-year Treasury bonds dropped to 6.91 percent from above 7 percent, which was near the level at which other euro-zone countries like Ireland and Greece needed bailouts.

“Of course it’s an important and comforting signal,” said Massimo Giannini, the business editor and deputy editor of the center-left daily La Repubblica, adding that the government had been concerned that the borrowing rates remained high even after it passed the austerity measures.

“But the pot is still boiling,” Mr. Giannini said, meaning that Italy’s economic travails remain acute and a challenge for the Monti government. “The problem is that we need to relaunch economic growth, but there isn’t a lot of money to do this. It’s a huge problem, and they don’t know how to do it.”

Market analysts said the drop in borrowing rates on Wednesday partly reflected Italian bond purchases by the European Central Bank and other European banks, which received a large infusion of low-interest capital from the European Central Bank this month.

Analysts said a bigger test for Italy will come in a larger bond auction on Thursday. Italy, the euro zone’s third-largest economy, must refinance almost 200 billion euros in government debt by April, and if borrowing rates remain high, the country could face a solvency crisis that could threaten the stability of the euro.

In many ways, the fluctuations in Italy’s borrowing rate only compound the country’s political complexities. Analysts doubted that the lower rates seen on Wednesday would buy Mr. Monti more time. Moreover, they said, his government needs a certain amount of market pressure to help push through politically unpopular structural changes in the economy that the parties nominally backing him in Parliament are not eager to carry out.

Yet if the market pressure becomes too high and the borrowing rates remain too onerous, Italy risks a default.

“A part of the political class thinks that if the market pressure lets up, we can also lessen the sting of cleaning up the economy, to do weaker economic measures,” Mr. Giannini said. “But by now I think there’s a broad awareness, at least on the part of the government, that we have to do these measures regardless of the euro and regardless of the commitment we made with Europe.”

In August, Italy agreed to eliminate its budget deficit by 2013 and enact structural changes to its pension system and labor markets in exchange for purchases of Italian government debt by the European Central Bank.

The People of Liberty, the largest party supporting Mr. Monti’s government in Parliament, believes that its former leader, Silvio Berlusconi, was swept out of office by market forces, not traditional democratic processes, and in recent weeks has attempted to gain political ground by capturing Italian discontent at the austerity measures.

“There’s no clear link between the decisions taken by the government and the markets,” Angelino Alfano, the leader of the People of Liberty and Mr. Berlusconi’s political heir, told a group of reporters last week. Calling on Europe to take broader action, he asked: “No matter how illuminated the choices are of the Italian government, can they change the course of the euro crisis or the destiny of Europe?”

In recent weeks, Mr. Monti, too, has been calling on Europe — which is to say Germany, the euro zone’s biggest and strongest economy — to help provide more institutional support for the euro.

Germany has adamantly opposed what it sees as rewarding the bad behavior of southern rim countries like Italy, Greece, Spain and Portugal, which amassed high public debts and where tax evasion is rampant. But it has also been vehemently opposed to changes that many economists and the Obama administration say are necessary to ensure the stability of the euro, such as allowing the European Central Bank to become a lender of last resort like the Federal Reserve in the United States.

The troubled backdrop to Italy’s economic challenge is neighboring Greece, where nearly two years of austerity measures — tax increases and wage cuts — demanded by the country’s foreign lenders have pushed the country into a deep recession and led to deep cuts in basic services like health care.

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