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Prospects Daily: European sovereign credit risk rises to eight-week high

Global Macroeconomics Team's picture

Important developments today:

1. European sovereign credit risk rises to eight-week high following Greek debt swap insurance payouts

2. Italy in recession

European sovereign credit risk rises to eight-week high following Greek debt swap insurance payouts. The cost of insuring European sovereign debt against default climbed to the highest level in eight weeks after the International Swaps & and Derivatives, an industry governing body, ruled that the Greek bond restructuring was a credit event, thus triggering credit-default swap (CDS) contracts. Greece’s use of collective action clauses (CACs) to force holdout bondholders to accept its debt restructuring deal caused the event, IDSA’s determinations committee declared on Friday. The Markit iTraxx SovX Western Europe Index of CDSs on 15 governments widened 4 basis points (bps) to 355 bps, the highest since January 18th. An increase in credit-default swap spreads generally signals deterioration in investor perception of credit quality. And the Markit iTraxx Crossover Index of credit swaps on 40 European companies with mostly high-yield credit ratings rose 5 bps to 585bps.

Italy in recession. Final Q4 2011 figures released by Italy’s national statistics institute, Istat confirmed that Italy is in a technical recession – GDP has fallen for the past two consecutive quarters. Weighed down by fiscal austerity and a slowing global economy Q4 2011 fell 0.7% (q/q sa) following a 0.2% decline in the previous quarter. Domestic demand was the main source of weakness as household consumption fell for a third straight quarter by 0.7% and investments were down by 2.4%. Net exports contribution was positive, but this was only because exports were flat and imports fell by 2.5% (reflecting weak domestic demand). Though the ECB’s long-term refinancing operations have helped to bring down the yields on Italian sovereign debts, the real economy remains under the weight of ongoing fiscal austerity, weak consumer and investment demand and slow growth elsewhere in Europe (its largest trading partner). The IMF forecast a contraction of 2.2% in Italy’s economy for 2012.

Among Emerging Market

In East Asia and the Pacific, Malaysia’s industrial production grew by 0.2% year-on-year (y/y) in January, the slowest pace in six months, due to weak global demand, disruptions to regional supply chains from Thai floods in 2011, and the Lunar New Year falling in January.   

In Europe and Central Asia, Romania’s industrial output increased 2.0% (y/y) in January, with the slow pace of growth stemming from weak demand in key European export markets and sluggish domestic demand amid severe cold weather and heavy snowfalls that disrupted freight transport.

In South Asia, India’s central bank cut the cash reserve ratio, by 75 basis to 4.75%, the second rate cut in two months, to ease cash shortages ahead of a tax filing deadline. The move is expected to add 480 billion rupees ($9.6 billion) into the banking system. India’s industrial output growth accelerated to 6.8% (y/y) in January from 2.5% in December, but capital goods production declined by 1.5% reflecting still-high borrowing costs.