Italy may need bailout

Italy might need financial relief as the euro zone economic crisis spreads.

Euro. Picture: AFP

VIENNA - Raising the stakes in Europe's debt crisis, Austria's finance minister said Italy may need a financial rescue because of its high borrowing costs, drawing a furious rebuke on Tuesday from the Italian prime minister.

Maria Fekter's assessment of the euro zone's third largest economy stoked investors' fears that Europe is far from ending 2-1/2 years of turmoil - a feeling reinforced by Dutch Finance Minister Jan Kees de Jager, who said the euro zone was "still far from stable".

A deal by euro zone finance ministers on Saturday to lend Spain up to 100 billion euros to recapitalise its banks was seen by many in the markets as yet another sticking plaster.

Spanish 10-year bond government yields soared to 6.81 percent, their highest level since the euro's launch in 1999.

Euro zone rescue funds, already stretched by supporting Greece, Portugal, Ireland and soon Spain, might be insufficient to cope with Italy as well, Fekter said in a television interview on Monday night.

"Italy has to work its way out of its economic dilemma of very high deficits and debt, but of course it may be that, given the high rates Italy pays to refinance on markets, they too will need support," Fekter said.

She sought to soften her remarks on Tuesday, saying she had no indication Italy planned to apply for aid.

Italian Prime Minister Mario Monti called her comments "completely inappropriate" for an EU finance minister. Euro zone officials said they were deeply unhelpful.

Amid the cacophony, Italian 10-year bond yields also rose further as the aid deal for Spanish banks failed to ease doubts about Madrid's ability to fund itself, fuelling wider contagion fears.

The market reaction suggests that ministers have failed to break the so-called doom loop between rising government debt, economic recession and teetering banks that previously drove Greece, Ireland and Portugal into EU/IMF bailouts.

Analysts cited uncertainty about the mechanics of the Spanish rescue and fears that private bondholders could be pushed down the repayment chain below official lenders, risking losses in any debt write-down, as they suffered in Greece.

"If you're a bondholder and they just push you down the line, why would you invest in Spanish government bonds?" said Gary Jenkins, director of Swordfish Research Ltd. "What they should be doing is trying to encourage people to invest in Spain, not discourage them."

Investors are also worried about the outcome of a Greek general election next Sunday which may determine whether the country stays in the euro zone.