French borrowing costs on the rise

FRENCH BORROWING costs rose yesterday and were expected to increase further as the euro zone debt crisis spreads to the core of the currency bloc, while European Central Bank buying of Italian and Spanish debt failed to reassure markets.

The premium investors demand to hold French rather than German government bonds rose to a new euro-era high near 2 per cent for 10-year debt before easing to 190 basis points, largely tracking Italian and Spanish spreads in volatile trade.

France has become the latest target of investor concern as a comprehensive solution to the region’s two-year debt problems remains elusive, with contagion also spreading to other top-rated sovereigns such as the Netherlands and Austria.

“It’s come to a tipping point now . . . the market is just calling the bluff of Germany,” said Alan McQuaid, chief economist at Bloxham Stockbrokers.

“The market is forcing Germany to make the call – does it want to be in the euro or not?”

He said that for as long as markets are questioning the future existence of the euro zone, yields will widen on debt issued by all its members apart from Germany, perceived as the bloc’s lowest risk.

The ECB’s repeated but limited forays into the secondary market to keep Italian and Spanish borrowing costs at sustainable levels have so far failed to stem contagion.

Italian 10-year yields rose back above 7 per cent, the level at which analysts say financing the country’s €1.8 trillion debt mountain becomes unsustainable, after falling earlier in the day.

Market pressure is growing on the central bank to buy large amounts of bonds without sterilising the purchases – effectively the same process of pumping cash into the market undertaken by the US and UK central banks.

“It’s difficult to see a fundamental game-changer for the time being,” Commerzbank strategist Rainer Guntermann said.

“There are more calls on the ECB to step in more broadly to be a lender of last resort. It is not yet prepared to do these things. That’s why the market will remain fragile,” he said, adding he remained neutral on French debt going into year-end.

The market mood did not bode well for auctions of up to €11 billion of Spanish and French bonds today.

Spain’s sale of new 10-year debt comes as the country’s finances are under renewed scrutiny just days before a general election and Madrid is expected to face its highest borrowing cost since the euro’s inception in 1999.

A failed auction in which the number of bids would not cover the €3-4 billion on offer would be a further blow to the market mood, but that is unlikely to happen. “It has cheapened relative to its curve, allowing dealers to make room for the deal, plus the ECB is giving support,” Societe Generale strategist Ciaran O’Hagan said in a note.

Spanish 10-year bond yields rose 5.6 bps to 6.425 per cent. That was more than the rise in premium on its two-year debt, which was up 2.1 bps at 5.6 per cent, illustrating the supply pressure on the longer end of the curve and greater ECB support for the front end. – (Reuters)