Italian, Spanish Economic Growth Sluggish as Crisis Threatens Recovery

Italian and Spanish economic growth remained sluggish with weak domestic demand complicating efforts to convince investors the countries can expand enough to reduce debt and avoid becoming victims of Europe’s sovereign crisis.

Gross domestic product in Italy rose 0.3 percent in the second quarter from the previous three months, when it grew 0.1 percent, Rome-based national statistics institute Istat said today. Spanish GDP expanded 0.2 percent from the January-March period, when it increased 0.3 percent, the Bank of Spain estimated today. Industrial output fell in June in both countries and in Germany, separate reports showed today.

Combined with “market tensions and higher interest rates, the economy is very likely to contract” in the third quarter, Luigi Speranza, an economist at BNP Paribas in London, said in a note about Italy.

“Increased uncertainty in recent months has accentuated the downside risks for economic growth,” Spain’s central bank said in its monthly economic bulletin, released in Madrid today.

Italian and Spanish 10-year bond yields have risen above 6 percent and the two countries are seeking to avoid the fate of Greece, Ireland and Portugal, which sought rescues after their borrowing costs surged above 7 percent. Austerity measures in both nations are damping growth prospects and support for the governments of Italian Prime Minister Silvio Berlusconi and Jose Luis Rodriguez Zapatero of Spain.

Spain over Italy

Spanish borrowing costs fell below those of Italy today for the first time since May 2010 on speculation the Iberian nation’s lower debt load makes it more able to withstand contagion from the region’s fiscal crisis. Spain’s debt as a percentage of GDP last year was 60 percent, about half that of Italy’s.

Spain’s 10-year bonds rallied, with the yield tumbling 23 basis points from a euro-era record close yesterday to 6.05 percent at 1 p.m. in London. Italian 10-year yields fell two basis points to 6.18 percent. Spanish bonds yielded as much as 81 basis points more than their Italian counterparts as recently as June 16. Italy has the region’s second-biggest debt burden after Greece.

Benchmark stock indexes in both countries gained today, snapping five days of losses that left Italy the worst performer among Europe’s biggest economies this year. The benchmark FTSE MIB Index is down more than 19 percent in 2011, while Spain’s IBEX 35 Index has shed 10 percent.

EU Efforts

The latest efforts by EU leaders to stem the spread of the debt crisis failed to stop the slide in Italian and Spanish bonds. EU leaders agreed to a second-bailout plan for Greece on July 21 and also adopted measures to strengthen its bailout fund to help nations before they need a rescue.

“What happens now to Spain’s borrowing costs will depend on the decisions made by politicians at the European level,” said Cagdas Aksu, a fixed-income analyst at Barclays Capital in London. “The markets can go either way very quickly.”

A lack of details in the euro-area leaders’ debt-crisis plan has contributed to the slide in markets, European Central Bank Governing Council member Luc Coene said today.

“There were a lot of gray areas where it wasn’t entirely clear what was decided,” Coene, head of Belgium’s central bank, told RTBF radio in Brussels. “This unnerved the markets. It all wasn’t entirely clear and has to be spelled out in the coming weeks, but the markets don’t have this patience.”

Rehn’s Response

Olli Rehn, the European Union’s commissioner for economic and monetary affairs, said today that technical and political details of revamping the EU’s main bailout mechanism will be completed by early September.

Spain’s government forecasts the economy will grow 1.3 percent this year even after it cut public wages, froze pensions and axed benefits to reduce the euro region’s third-largest budget gap by half in two years. Italy’s economy will expand 1 percent in 2011, the Bank of Italy forecast on July 15.

The Bank of Italy expects Italian growth to continue to lag behind the euro-area average for the next two years, Bank of Italy Governor Mario Draghi said on July 13. Austerity measures won’t be enough for Italy and other euro-region countries to reduce debt if not accompanied by policies to boost economic growth, the European Central Bank’s incoming president said.

Italian economic growth has trailed the euro-region average for more than a decade.

Losing Momentum

“Business surveys over the last few months point to a clear loss of momentum in both manufacturing and service activity going ahead,” said Chiara Corsa, an economist at UniCredit Research in Milan.

Spain and Italy have relied on exports to spur the recovery. Indra Sistemas SA (IDR), Spain’s largest computer-services company, said on Aug. 2 it’s betting on foreign markets to offset domestic weakness. Enel SpA, Italy’s biggest power company, said on Aug. 3 that new generation capacity in Russia and Iberia will help sustain its earnings in months to come.

Data released today showing German industrial output fell 1.1 percent in June “confirm that, amid financial market turmoil and the peripheral debt crisis, a broader economic slowdown is taking place,” Jennifer McKeown, an economist at Capital Economics in London, said in a note. “Germany cannot be relied upon to buy exports from the euro-zone’s periphery or maintain growth in the region as a whole.”

To contact the reporter on this story: Chiara Vasarri in Milan at cvasarri@bloomberg.net; Angeline Benoit in Madrid at abenoit4@bloomberg.net

To contact the editor responsible for this story: Craig Stirling at cstirling1@bloomberg.net Angela Cullen at acullen8@bloomberg.net.

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