Draghi government and first rate hike by the ECB in a decade: today the anniversary of the double shock that hit BTPs and spreads, Italy and Europe
Goodbye Draghi government: exactly one year has passed since that July 21, 2022 that put an end to theexperience of the Italian government led by former ECB president Mario Draghi.
That was also the day when Christine Lagarde’s ECB despite the danger of a speculative attack against the BTPs and therefore the risk of a surge in the BTP-Bund spread, it went straight on its way, announcing the first rate hike in the euro area in 11 yearswith a squeeze of 50 basis points.
The monetary tightening was confirmed twice as much as had been anticipated by the ECB itself the month before and put an end to thatit was negative rates which, also (or precisely?) in order to lock down the Italian public debt, had been launched years earlier by Mario Draghi’s ECB.
Fall of the Draghi government on BCE-Day. Lagarde and the anti-spread shield
Christine Lagarde’s ECB decided that same day 21 July 2022 to announce, in the face of the rate hike, a sort of shield saves BTP anti spread:
not quite the solution hoped for by the markets which, intimidated by the end of the Draghi government’s games, had asked for support, in favor of Italy now orphaned by Mr. Whatever It Takes, harder.
But Lagarde, after having underestimated for months the threat of inflation, which first jumped with the reopening of the economy from the lockdowns launched during the darkest periods of the Covid pandemic, then taken with the war in Ukraine which began on February 24, 2022, nevertheless decided to launch the first monetary tightening of the decade, citing the presence of risks of even stronger surges than prices.
As a pro-BTP measure, Lagarde launched the TPI tool, sending a clear message to Italy: “We will not be held hostage by anyone”.
Europe itself did nothing to hide its irritation with an Italy.
In particular Stefan Gerlach, chief economist at EFG Bank, former deputy governor of the central bank of Irelandmade it clear unequivocally that it was not up to the ECB of Lagarde save Italy from its politicians.
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“Throughout Europe, sustained inflation is starting to create political instability, as we are seeing in Italy. It is a very complex moment for the ECB, which obviously does everything to fight inflation and keep market expectations in this regard under control, even at the risk of starting a recession”, he commented Morgane Delledonne, Head of Investment Strategy Europa di Global X.
On that hot July day the BTP-Bund spread fluctuated around 230 basis points.
With the end of the era of negative rates, it opened up a new chapter in monetary policy of the European central bank, which would have seen protagonists, in all, eight consecutive monetary tightenings, for a total amount of 400 basis points.
Lagarde ushered in a historic phase that would have seen, against Frankfurt, take the field the same Meloni government, contrary to a roundup of moves now considered by many to choke the GDP.
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On that 21 July 2022, the ECB raised the three main reference rates, i.e. the interest rates on the main refinancing operations, on the marginal refinancing operations and on deposits with the central bank, respectively at 0.50%, 0.75% and 0.00%.
Very low levels compared to the current ones, after the last monetary tightening of 25 basis points of the June 15th meeting.
And that’s not all since, in the upcoming Eurotower meeting next week, Thursday July 27, the ECB will announce yet another rate hike, as part of its exhausting fight against inflation which, as Christine Lagarde branded it, remains persistent .
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The lack of Mario Draghi, which has already been felt on several occasions, is particularly evident today, first anniversary of his resignation.
Several comments on social media that remember his government.
No flare-up of BTP rates and spreads with the Meloni government
It must be said that the Meloni government, formed following the early elections of September 2022, he showed a fiscal prudence that was more than rewarded by the markets.
There has been virtually no increase in the BTP-Bund spread since he took office, except sporadically.
The differential between the rates of German and Italian government bonds remained under control, despite the continuous increases in the cost of money by the ECB and inflation in the euro area which remains above the central bank’s 2% target, albeit at a sharp slowdown compared to previous months.
Indeed, the spread has even narrowed, something that the Prime Minister Giorgia Meloni he repeatedly remarked.
To be precise, the rates of 10-year BTPs, as confirmed by the Bloomberg graph, they have risen from 3.52% on 21 July 2022 to 4.07%.
Lo spread BTP-Bund on the other hand, it fell (due to the rise in BTP rates but also in German Bund rates) from 232 to 159 points.
Rates and spreads under control not only in the face of the repeated monetary tightening launched by Lagarde’s ECB, but in spite, also, of the instrument considered among the most dangerous for the Italian public debt, i.e. the QT.
BTP and QT threat. The former Goldman Sachs: ‘But in Italy there is still QE’
The BTPs showed themselves, despite the headwinds, decidedly resilient even with the threat of Quantitative Tightening becoming a reality, and which could become even more insidious.
How is it possible?
An explanation on the resilience of BTPs has been given in recent days by Robin Brooks, Chief Economist @IIF aka the Institute of International Finance and former Goldman Sachs Chief Forex Strategist, who denied the alarmism on the effects of the ECB’s monetary policy which has been launched repeatedly by various representatives of the Italian government, especially in recent weeks by Giorgia Meloni and by the leader of the League, deputy prime minister and minister of transport and infrastructure Matthew Salvini.
With a post published on Twitter, Robin Brooks wrote that “the ECB is reinvesting the capital repaid by maturing German bonds to make investments in Italian government bonds”.
The ECB currently uses maturing German government bonds to reinvest that cash in Italian government bonds. That means that – de facto – ECB QE is ongoing for Italy (and a much lesser extent Spain), while Germany has QT. This means German yields are true market yields. Italy no… pic.twitter.com/5eir2VNSj4
— Robin Brooks (@RobinBrooksIIF) July 17, 2023
And that means, to name the former Goldman Sachs, that, in fact, QE (yes, precisely that Quantitative Easing which should in theory be defunct by now) is continuing in favor of Italy (and to a much lesser extent in favor of Spain)”.
In short, it is Germany that is coping with the effects of QT. “And this means that German rates are the real market rates. Not those of the BTPs“ concluded Robin Brooks.