European finance ministers opened the way for looser budget policies after a backlash against austerity thrust Italy into political limbo and shattered months of relative stability in European markets.
Italy’s deadlocked election, France’s refusal to make deeper budget cuts and protests against the shrinking of the welfare state across southern Europe escalated the rebellion against the German-led prescription for fighting the debt crisis.
The euro-zone economy will shrink 0.3% in 2013, making for the first annual back-to-back contraction since the currency’s birth in 1999, the European Commission forecast last month. The currency-bloc prediction masked a widening north-south divide, with growth in countries like Germany, Finland, Belgium and Luxembourg set against dwindling output in Italy, Greece, Spain and Portugal.
France is straddling the middle, set to eke out a 0.1% expansion after the economy stagnated in 2012, according to the commission. Deeper budget cuts are out of the question, French Finance Minister Pierre Moscovici said.
France is counting on estimates that it has made sufficient reductions in the "structural" deficit -- a figure that factors out the effect of the economic cycle -- to escape a European order to cut more.
French President Francois Hollande became a spokesman for southern European opposition to belt-tightening last year after ousting Nicolas Sarkozy, who toed German Chancellor Angela Merkel’s anti-crisis line.
The biggest vote-getter in the lower house of parliament, Pier Luigi Bersani of the Democratic Party, is trying to form a government by outmaneuvering Grillo’s blocking minority in the upper house. A second election -- analogous to Greece in 2012 -- figured as a possibility.
Italian bonds rebounded from a two-day slide today. Ten-year Italian yields fell 12 basis points to 4.76%, paring the extra borrowing costs over German levels to 331 basis points. The spread, an indication of the perceived risk of Italian investments, remained above its pre-election level of 288 basis points
Italians revolted against the budget cuts spearheaded by technocratic Prime Minister Mario Monti, even though no one in Europe called for additional savings. The apolitical Monti, tapped to head a unity government in November 2011, picked up 10% of the vote.
Germany’s Merkel indicated that she is sensitive to criticisms that budget cutting has been overdone.
"We’ve done quite a bit to consolidate budgets, but we always have this discussion about growth, and don’t quite have the answers for where the growth should come from," Merkel said late yesterday.
