Truth and lies about Nadef, spreads and more
What is said and what is not said about Nadef and beyond. Giuseppe Liturri's analysis
It is no mystery that in Italy and Brussels there is a transversal party that supports "force spread". It already happened in the autumn of 2011, with the results that we all remember, and again in the autumn of 2018. Even with notable differences compared to those two episodes, these days here we go again. The headline that appeared on Wednesday in the newspaper La Repubblica (“Maneuver, challenge to Europe”) offers a fairly clear and illustrative image of the brawl – artfully created for the purposes of political struggle – that awaits the government in the coming weeks. The update note to the Def presented on Wednesday 27th is only the first step of a journey along which the government's papers on the next budget law will gradually be revealed and will culminate in the sending of the budget plan to Brussels on 15th October .
Thursday was a difficult day on the markets. The difference in yield between BTPs and Bunds on the ten-year maturity came close to 200 basis points, a level that had not been seen since the beginning of May when it began a long descent to the minimum around 160, and then closed at 195. When everything seemed ready for a classic "Black Friday", however the next day the Cassandras had to retreat. The Italian 10-year yield has returned to around 4.77%, where it was on Wednesday before the announcement of the numbers from Nadef, and the spread has returned to around 190.
But exactly 12 months ago – in the aftermath of the elections – the spread was at around 255 points. In short, looking at things in perspective, we are in a better position than 12 months ago but there is something that worries investors, especially in the past month. And it is not the Italian or French budget law. Instead, these are the new winds of inflation brought by the sudden increase in the price of Brent oil and other raw materials whose prices are inflated by the purchasing rush triggered by the Green Deal. For this reason they are requesting a general increase in yields on government bonds and, in this context of rising yields and falling prices, the BTP is the ideal vehicle – due to its liquidity and its traded volumes – to take downward positions. This explains the "duty" that our title pays on the equivalent French and German titles.
Looking at absolute levels, the spread increased by around 30 points in the last month because the yield on the 10-year BTP rose by around 50 points from 4.25% to 4.75% while the Bund only rose by around 20 points from 2.65% to 2.85%.
Therefore, in the recent context of a generalized upward trend in rates – justified and provoked by the aggressive declarations on the future level of rates coming from representatives of the Fed first and then of the ECB – the BTP has shown greater upward sensitivity than the Bund. But looking back a year, the 10-year BTP offered the same yield as today (4.75%) while the German Bund rose from 2.20% to 2.85%. For this reason, the spread fell by 60 points, from 255 to 195. Furthermore, compared to then, it must be noted that the ECB is a net seller of Italian securities. In August alone, it poured 8.2 billion securities onto the market, approximately half of the total sales made. In September and October, 13 and 44 billion respectively are due, of which the Italian share will certainly be significant. If we add to this that the Treasury also had to issue securities for 29 billion in August (after the record issues of 106 billion in the previous two months) we can conclude that yield fluctuations in the order of 30-40 points should not cause excessive concerns. On the contrary, they must be interpreted as signs of stability compared to a macroeconomic framework that shows clear signs of worsening, in the presence of which, in other times, a very different storm would have been unleashed.
The ten-year BTP at around 4.70% is a share that has been tested by the markets at least twice more in the last 12 months – always obeying the rule according to which when there is a bullish tension on rates, the BTP is objectively under special surveillance which attracts the attention of those who take bearish positions on the price of the security, encouraged in this by the availability of a very liquid derivative such as the BTP future – and both times those who bet against the BTP came away with broken bones, because the yield it then fell back to the lows of around 4%.
Finally, we would like to point out that that 4.70% of a year ago was recorded with record inflation of 11.8% on an annual basis and with the ECB committed to raising rates by 75 basis points at a time. Today we are with inflation at 5.3% in September and a probable significant drop expected in October (because the change in prices will be calculated starting from a much higher base). That yield (rising in real terms, thanks to falling inflation) should soon become a very attractive draw again. The impression is that in recent days investors have overestimated the recent words of Christine Lagarde who still uses "muscular" language and is not convinced that she cannot follow US monetary policy, given the current and prospective differences.
Of course, investors' fears regarding the balances of the next budget law and, above all, their composition cannot be denied. But here too, it is likely that the markets fear the Commission's erratic behavior more than the 2024 deficit/GDP of 4.3% forecast in the Nadef.
Also because there is something that doesn't add up when comparing Nadef's numbers and the first comments. It appears that the government has been less than decisive in reducing the debt/GDP ratio, raising concerns among investors. But this is not the case, numbers in hand. Let's take a step back to April 2023, when the government published the previous programmatic framework which is usually updated every year in September.
Just 6 months ago, the plan debt/GDP for 2023, 2024, 2025 was 142.1%, 141.4% and 140.9% respectively. With Nadef the new programmatic framework has become 140.2%, 140.1% and 139.9%.
Comparing the levels, it is clear that the government has further reduced the debt/GDP policy targets in all years. In particular, 1.9, 1.3 and 1 point less for each year of the three-year period considered. And it's not clear why, if 141.4% of 2024 was fine in April, now, when the target is set at 140.1%, someone is raising their eyebrows.
It is true that the Nadef presents a less steep decline profile than the Def (only 0.3 points from 2023 to 2025, compared to 1.3 points for the Def), but it is the level that counts for the sustainability of the debt.
It should be highlighted that the new level indicated by the government benefits from the upward revision of the GDP (35 billion) communicated by Istat on 22 September, but is heavily weighed down by approximately 30 billion of additional debt due to the exceeding of the Superbonus forecast. Nonetheless, it gets better. And that's what should matter for the markets.
In fact, investors know very well that tax revenues increased by 8.6% up to July and Minister Giancarlo Giorgetti collected 25 billion more than in 2022. They also know that the nominal GDP growth rate for 2023 and 2024 is well above the average cost of debt, which guarantees the reduction of the debt/GDP ratio. The concern derives from the fact that the Commission has not at all given up – because the so-called "suspension" of the Stability Pact does not prevent it – from targeting the States whose deficit/GDP exceeds 3% and whose debt/GDP exceeds 60%. The report issued on 24 May on the excessive deficit procedure pursuant to Article 126 of the TFEU, observing the 2022 and 2023 accounts, identifies in Italy and France the special surveillance for which the Commission has ascertained the violation of the limits and the 8 March only decided to postpone the opening of this procedure until spring 2024. This is what the markets fear and which they are ready to take advantage of: the casual swing of a crude club which – by predicting problems in the balance sheet and aiming to correct them – in fact translates into a pro-cyclical self-fulfilling prophecy and makes those who put themselves in advance on the right side of the market.
On Monday we will understand whether the markets will be satisfied with the objective revaluation that has occurred on all government bonds and will stabilize or will they listen to the Cassandras in effective permanent service (paid?) who can't wait to call the foreign Podestà to Palazzo Chigi .
This is a machine translation from Italian language of a post published on Start Magazine at the URL https://www.startmag.it/economia/verita-e-bugie-su-nadef-spread-e-non-solo/ on Sun, 01 Oct 2023 18:38:03 +0000.