An Italian tripwire for the US recovery?

The world is pinning its hopes on a rapidly accelerating US recovery, but any overexposure of American bankers to Italian bonds could halt this optimism.

The American stock market and Federal Reserve chief Ben Bernanke sent a clear message to the world last night: ‘we are going to restore the US economy and we can ride through the European mess’.

And to underline that message it is now clear the low US interest rates are finally stimulating the housing market and, of course, the shale gas and oil discoveries have many US companies dusting down expansion plans.

The US stock market assumes that there will be no fiscal cliff and that while US politicians will make threatening noises, they will go along with the expansion ride.

To some extent Australia is going along with the US, but our fortunes will depend on China, and whereas the US is looking at an investment boom our mining investment boom is behind us and we are now moving into run down mode.

Can the US insulate itself from Europe?

It will depend on whether a cashed up US banking system, in its desire for quick profits, has plunged back into Europe. Its too early to discover this, but US bankers do not have a good eye for risk and are always after quick dollars.

The Italian bond market illustrates the temptations and hidden dangers that lay in waiting to entice American bankers. Italian bond yields have come down dramatically in the last year as the investment community became more comfortable that Italy had a stable government. Those falling Italian yields and higher Italian bond prices were not created by European Central Bank intervention but rather by investors looking for ‘yield’ in a low interest rate world.

Italian voters have told the Germans and the central bankers that they have had enough of austerity. What they are really saying is that they have had enough of the effects of the uniform currency.

Italy has not yet experienced the fear that comes when a country faces the loss of all its bank savings. When the Greeks came face to face with that reality and saw the potential deep depression that would occur as they exited the euro, they voted for continued austerity etc. Italy was not seriously presented with that grim choice in this election, which is why a comedian did so well.

But just as occurred in Greece, that choice will be put before the Italians in coming months. In the process those banks that bought Italian bonds will lose a lot of money. My hope is that the main buyers are Europeans and the European Central Bank will bail them out with German money – at least until all the German savings are used up.

With the US now very much the hope of the world it is important that American bankers have not been caught. And any Australian bank chief executives who punted on European bonds with substantial amounts will lose their jobs.

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