An (Italian) Tale of Two Auctions

Italy is ready for its New Year’s Eve party, having completed its last round of debt auctions for 2011. Results were a bit of a mixed bag, but in general, costs to service newly auctioned debt are lower than even a few weeks ago.

Wednesday, Italy successfully auctioned nearly €10.7 billion of debt at yields much lower than November’s, fully subscribed with relatively robust demand. 179-day bills sold at a yield of just 3.251%, down from 6.504% previously. Likewise, two-year bonds fell to 4.853% from 7.814% just a month ago. All generally positive.

Conversely, Thursdays longer-term auction results were less rosy, as Italy sold only €7 billion in debt—above the minimum expected €5 billion, but well short of the maximum target of €8.5 billion. Rates across the board were also lower than a month ago. Ten-year bond yields dropped to 6.98% from 7.56%—still elevated, but not unmanageable.

Though half a percentage point lower, those longer-term yields still stayed around the 7% level many fear is a trigger point for bailouts. However, as we’ve written before, 7% yields don’t necessarily portend immediate doom for a country. It’s important to scale debt service costs across a country’s entire outstanding debt and examine the nation’s ability to pay interest with current revenues. Right now, Italy’s situation seems sustainable at these yield levels—and perhaps even a little higher.

Some attribute better yields in both auctions, at least a bit, to austerity efforts proposed by Prime Minister Mario Monti’s technocratic government and passed by the Italian parliament last week. In fact, following Thursday’s auction results, Monti announced a new series of measures to boost the country’s economic growth, increase competitiveness and liberalize Italy’s labor market. Perhaps austerity did impact yields to some degree, and Italy could use a boost of competitiveness. We are, as always, cynical about any politician’s ability (even a technocrat) to do what he (or she) says.

There’s also the ECB’s LTRO offering last week, which possibly helped drive yields lower by incentivizing banks to buy higher-yielding peripheral debt. But, as has been the case with many eurozone developments the past two years, time and staying power matter. As such, it seems early to draw major conclusions about the full or lasting impact of the LTRO.

Similarly, no one auction (or even two on successive days) is likely to dramatically and immediately alter Italy’s funding, for good or bad. The fact is, the debt comes due at various times throughout the year—so take these last two of 2011 for what they were: An incremental improvement in yields to round out a bumpy 2011.