Bond yields drop for Italy and Spain but Greece moves ever closer to leaving the euro

01/12/2012 5:08 pm EST


Jim Jubak

Founder and Editor,

Spain and Italy stepped back from the brink today but Greece moved closer to the edge. (Which, of course, means that Spain and Italy moved closer to the edge too, I think.)

Just another day at the office in the euro debt crisis.

Good news first. Spain sold twice as many bonds at auction today than it had targeted and at a much-improved rate. The country sold $13 billion in bonds and the three-year note priced to yield 3.384%.  At the December auction the notes priced to yield 5.187%. (Just for reference and so we don’t get carried away a five-year U.S. Treasury yields 0.82%.)

Italy did even better on the yield front at its auction. The country sold $15 billion in bills. The yield on the one-year bill was just 2.735%. On December 12 the bills of this maturity were priced to yield 5.952%.

After the auction the yield on Spain’s benchmark 10-year bond dropped 0.2 percentage points to 5.13% and the yield on the 10-year Italian bond dropped 0.35 percentage points to 6.63%. That pulled both countries further back from the 7% yield that suggests a bailout is just around the corner.

I’d suggest that this is quite probably a temporary respite since both Spain and Italy are slipping into a recession (if they aren’t already in one) that will add to their budget deficits and undo much of the progress toward reducing those deficits that they have made in the last week or so.

But still temporary or not, Italy and Spain are seeing progress. Greece, on the other hand, is in danger of seeing even its precarious current stability unravel.

It’s hard to tell if the vocal disagreement between Greece and its private creditors is a signal that one side or the other is about to walk out or just a bargaining tactic, but there certainly isn’t any sign of visible progress in the talks between the country and its creditors on how to restructure the country’s debt. Remember that the October “deal” envisioned Greece’s creditors taking a voluntary 50% haircut on the price of their Greek bonds in exchange for some unspecified upfront cash payment and new bonds with an unspecified yield? Well, almost three months later the cash payment and the yield are both still unspecified and the length of the haircut has gone from 50% to some unspecified but more painful level.

The only thing that is certain is that the clock is ticking. The European Union, the European Central Bank, and the International Monetary Fund have said they will not hand over their next rescue payment to Greece unless the country and its creditors come to an agreement. Greece has said it will default on its debt unless it gets the cash in time to meet an $18 billion bond repayment on March 3. The Institute of International Finance, which represents the banks that hold Greek debt, wants to see a deal implemented by the end of January.

Complicating the deal are projections from the International Monetary Fund that say Greece won’t reach a sustainable level of debt unless its creditors accept a greater than 50% haircut and a lower yield on their new bonds.

Oh, and hedge funds have been busy buying up Greek debt that trades at 70% to 80% discounts to face value on the bet that they’ll make a profit when Greece’s creditors negotiate a haircut closer to 60%.

And the European Central Bank, a big holder of Greek debt, has categorically refused to participate at all in the supposedly voluntary swap.

Comments from members of German Chancellor Angela Merkel’s own party have added a certain frisson to the whole effort. Michael Meister, deputy parliamentary caucus leader for Merkel’s Christian Democratic Union, and Michael Fuchs, another CDU deputy floor leader, have said in the last few days that Greece will never be able to repay its loans and that the country will have to leave the euro.

Neither sees any danger that a Greek departure would ratchet up the pressure on Spain and Italy.

Of course, nobody knows if that’s actually true. One of the scariest parts of this whole crisis is that everybody is just making it up as they go along.
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