London Daily

Focus on the big picture.
Saturday, Nov 01, 2025

Italy political turmoil a headache for Europe's central bank

Italy political turmoil a headache for Europe's central bank

Italian Prime Minister Mario Draghi’s offer to resign has sent unsettling ripples through financial markets, bringing back bad memories of Europe’s debt crisis a decade ago and complicating the European Central Bank’s job as it raises interest rates for the first time in 11 years to combat record inflation.
Draghi, a former ECB president, has pushed policies meant to keep Italy’s high levels of debt manageable and boost growth in Europe’s third-largest economy. He suggested Wednesday that he was open to staying in power, but the threat of political changes as borrowing costs increase have raised concerns that the 19-country eurozone could head into another crisis.

It’s a headache for the ECB as it seeks to return interest rates from sub-zero to more normal levels starting Thursday — without setting off bond-market chaos in a country with debt at 150% of economic output. The ECB has said it will raise rates a quarter-percentage point, though some analysts aren’t ruling out a half-point increase.

The Frankfurt-based ECB will join the U.S. Federal Reserve, Bank of England and other central banks worldwide that have already raised rates several times to tame runaway inflation. But the ECB doesn’t want jittery markets sending up the borrowing costs of some euro member countries beyond what’s justified by their economic strength.

The bank’s task is already hard enough with predictions growing of a recession next year due to exorbitant oil and natural gas prices fueled by the war in Ukraine.

So along with the rate increase, ECB President Christine Lagarde is expected to announce a financial backstop aimed at capping borrowing costs for governments and companies in eurozone countries that are less financially solid than the others.

It’s a hassle unique to the ECB because it oversees 19 countries that are in different financial shape but use one currency, which has plunged to its lowest level against the dollar in 20 years.

“The Fed and the Bank of England don’t have this problem,” said Maria Demertzis, interim director of the Bruegel think tank in Brussels. “The borrowing costs for each country when they issue debt is different, because the underlying outlook is different.”

The ECB’s goal is to avoid a replay of 2011 to 2012, when Italy’s borrowing costs spiked to around 7%, driven by a so-called bond-market death spiral, where rising borrowing costs raise fears a government won’t repay their debt, in turn raising borrowing costs even higher.

The vicious circle was broken by Draghi pledging as ECB chief to “do whatever it takes” to preserve the euro, followed with a promise that the bank would buy the bonds of countries facing excessive borrowing costs if needed. That backstop calmed the market so well that it never had to be used. But it came with tough conditions that might make it unappealing to governments.

The ECB’s new backstop will have conditions but probably less onerous ones. It would consist of a promise to buy an indebted country’s bonds, which drives down borrowing costs if market interest rates rise to unjustified levels.

In recent days, borrowing costs for Italy and other less financially solid eurozone countries such as Spain and Portugal have risen compared with financially solid Germany, the benchmark.

Italian 10-year bonds now yield 3.4%, about 2.2% higher than their German equivalent. Italy’s borrowing costs are not excessive at that level, but the idea is to keep them that way because market sentiment can turn suddenly.

Demertzis said that as interest rates go up, they’re transmitted differently to the borrowing costs of each country.

“So now that we are in the part of the interest rate cycle where rates are going to have to go up, the problem is that borrowing costs will accelerate for Italy and will not accelerate for Germany,” she said.

If Italy can’t borrow affordably, it could turn to the eurozone’s bailout fund, but it would be much harder to rescue than Greece was a decade ago because Italy is much bigger.

The trick for the ECB will be to reassure markets while not encouraging reckless spending by governments or violating legal restrictions on directly financing governments.

“Any sense that the ECB is dragging its feet, or that the final outcome won’t be effective enough, will see fragmentation concerns rush back onto the agenda, fanning the flames of an altogether more worrying fall in the euro,” wrote Neal Shearing, chief economist at Capital Economics.

“Ten years after Draghi’s pledge to do whatever it takes, Christine Lagarde risks repeating history. She must avoid drifting into another crisis that would ultimately require her to make a similar pledge to her predecessor,” he said in an analyst note.

Italy’s political crisis, playing out in Parliament after the president rejected Draghi’s offer to resign over a divide in the coalition government, follows 17 months of relative stability. Draghi rolled out an ambitious pandemic recovery program aimed at improving long-term economic growth — the real answer to keeping Italy’s debt manageable.

The 190 billion-euro plan backed by common EU borrowing will add some debt but is intended to more than make up for it because strong growth shrinks the size of debt relative to the economy.

Italy’s debt, second highest in the eurozone after Greece, fell 4.5% in 2021 because of the country’s strong growth rebound.

Greek debt is less of an issue, Demertzis said, because it’s mostly owed to public institutions after Greece’s three bailouts during the debt crisis — and therefore isn’t exposed to market selloffs.

Draghi’s government has begun passing recovery proposals like digitizing and improving government services and streamlining a cumbersome legal system criticized for years as a drag on businesses. It also plans to increase day-care slots so more women can enter the labor force, accelerate the transition to renewable energy and extend high-speed rail and internet to more areas of the country.

But if Draghi’s coalition breaks apart and is replaced by a government less committed to pressing ahead with the reforms, markets could begin to doubt its prospects for economic growth.
Newsletter

Related Articles

0:00
0:00
Close
Glamour UK Says ‘Stay Mad Jo x’ After Really Big Rowling Backlash
Former Prince Prince Andrew Faces Possible U.S. Congressional Appearance Over Jeffrey Epstein Inquiry
UK Faces £20 Billion Productivity Shortfall as Brexit’s Impact Deepens
UK Chancellor Rachel Reeves Eyes New Council-Tax Bands for High-Value Homes
UK Braces for Major Storm with Snow, Heavy Rain and Winds as High as 769 Miles Wide
U.S. Secures Key Southeast Asia Agreements to Reshape Rare Earth Supply Chains
US and China Agree One-Year Trade Truce After Trump-Xi Talks
BYD Profit Falls 33 % as Chinese EV Maker Doubles Down on Overseas Markets
US Philanthropists Shift Hundreds of Millions to UK to Evade Regulatory Uncertainty in Trump Era
Israeli Energy Minister Delays $35 Billion Gas Export Agreement with Egypt
King Charles Strips Prince Andrew of Titles and Royal Residence
Trump–Putin Budapest Summit Cancelled After Moscow Memo Raises Conditions for Ukraine Talks
Amazon Shares Soar 11% as Cloud Business Hits Fastest Growth Since 2022
Credit Markets Flooded with More Than $200 Billion of AI-Linked Debt Issuance
U.S. Treasury Secretary Scott Bessent Says China Made 'a Real Mistake' by Threatening Rare-Earth Exports
Report Claims Nearly Two Billion Dollars in Foreign Charity Funds Flowed into U.S. Advocacy Groups
White House Refutes Reports That US Targeting Military Sites in Venezuela
Meta Seeks Dismissal of Strike 3’s $350 Million Copyright Lawsuit
Apple Exceeds Forecasts With $102.5 Billion Q3 Revenue Despite iPhone Miss
Israel's IDF Major General Yifat Tomer-Yerushalmi Admits to Act Amounting to Aiding Hamas During Wartime (Treason)
Shawbrook IPO Marks London’s Biggest UK Listing in Two Years
UK Government Split Over Backing Brazil’s $125 Billion Tropical Forest Fund Ahead of COP30
J.K. Rowling Condemns Glamour UK Feature of Nine Trans Women as 'Men Better at Being Women'
King Charles III Removes Prince Andrew’s Titles and Orders His Departure from Royal Lodge
UK Finance Minister Reeves Releases Email Correspondence to Clarify Rental-Licence Breach
UK and Vietnam Sign Landmark Migration Deal to Fast-Track Returns of Irregular Arrivals
UK Drug-Pricing Overhaul Essential for Life-Sciences Ambition, Says GSK Chief
Princesses Beatrice and Eugenie Temporarily Leave the UK Amid Their Parents’ Royal Fallout
UK Weighs Early End to Oil and Gas Windfall Tax as Reeves Seeks Investment Commitments
UK Retail Inflation Slows as Shop Prices Fall for First Time Since Spring
Next Raises Full-Year Profit Guidance After Strong Third-Quarter Performance
Reform UK’s Lee Anderson Admits to 'Gaming' Benefits System While Advocating Crackdown
United States and South Korea Conclude Major Trade Accord Worth $350 Billion
Hurricane Melissa Strikes Cuba After Devastating Jamaica With Record Winds
Vice President Vance to Headline Turning Point USA Campus Event at Ole Miss
U.S. Targets Maritime Narco-Routes While Border Pressure to Mexico Remains Limited
Bill Gates at 70: “I Have a Real Fear of Artificial Intelligence – and Also Regret”
Elon Musk Unveils Grokipedia: An AI-Driven Alternative to Wikipedia
Saudi Arabia Unveils Vision for First-Ever "Sky Stadium" Suspended Over Desert Floor
Amazon Announces 14 000 Corporate Job Cuts as AI Investment Accelerates
UK Shop Prices Fall for First Time Since March, Food Leads the Decline
London Stock Exchange Group ADR (LNSTY) Earns Zacks Rank #1 Upgrade on Rising Earnings Outlook
Soap legend Tony Adams, long-time star of Crossroads, dies at 84
Rachel Reeves Signals Tax Increases Ahead of November Budget Amid £20-50 Billion Fiscal Gap
NatWest Past Gains of 314% Spotlight Opportunity — But Some Key Risks Remain
UK Launches ‘Golden Age’ of Nuclear with £38 Billion Sizewell C Approval
UK Announces £1.08 Billion Budget for Offshore Wind Auction to Boost 2030 Capacity
UK Seeks Steel Alliance with EU and US to Counter China’s Over-Capacity
UK Struggles to Balance China as Both Strategic Threat and Valued Trading Partner
Argentina’s Markets Surge as Milei’s Party Secures Major Win
×