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EU debt crisis: Italy downgraded as IMF cuts forecasts – as it happened

• International Monetary Fund warns that the world economy is in a “dangerous place”
• IMF cuts UK growth forecast to 1.1% this year
• Standard and Poor’s questions Italy’s ability to cut state spending and strengthen its finances
Silvio Berlusconi accuses S&P of being misled by political opponents and the media
• Greece to hold further talks with the IMF today

5.17pm: With the European markets closed, and the IMF’s Washington briefing concluded (for now), we’re going to bang the lid on this blog.

Here’s the key points:

• Europe’s debt crisis worsened today as Standard& Poor’s cut Italy’s credit rating by one notch to A, with a negative outlook.
• Silvio Berlusconi claimed the move was politically motivated, but Italy’s business leaders demanded widespread changes
• Greece is expected to rush forward austerity measures, and lay off thousands more public sector workers, in return for the €8bn loan needed to keep the country running
• The IMF has cut its forecasts for the world economy, and warned that Britain may need to change course if growth is even slower than expected
• European stock markets closer higher, on hopes of new stimulus measures from the Federal Reserve on Wednesday.

Thanks all.

4.59pm: The early predictions that the financial markets would be spooked by the Italian downgrade proved wide of the mark. The FTSE 100 index closed 104 points higher at 5363.71, a rise of nearly 2%.

Strong gains in Europe too, where Germany’s DAX closed 2.8% higher, the French CAC gained 1.5%, and the FTSE MIB jumped 1.9%.

However, the gains probably won’t last, according to Giles Watts, head of equities at City Index. As Watts explains, there was little in today’s news to justify a solid rally.

Today we have the FTSE 100 rallying more than 2%, on a day when Italy’s credit rating was downgraded, the Troika remains in talks with Greece over the next tranche of loans and we have an FOMC decision to come tomorrow. There are not immediately visible bullish factors in the market therefore to warrant a 2% increase in Indices as so as such, we can relate today’s rally to low volumes and short covering.

Watts adds that traders could be disappointed if Ben Bernanke does not announce Operation Twist tomorrow night.

4.28pm: Shadow chancellor Ed Balls has warned that the IMF’s World Economic Outlook contains “deeply concerning” forecasts, both for the UK and the global economy:

Our Chancellor and political leaders in Europe need to wake up to the scale of the problem and finally realise that we need economic growth and more people in work to really get deficits down.

As the Standard and Poor’s statement makes clear, Italy’s credit rating has been downgraded because of weakening growth, with austerity measures being one of the reasons they say is behind this, and a lack of political agreement in parliament.

As Balls admits, the IMF did not say that Osborne should alter his plans right now – but that prolonged weak growth would require a change of direction.

The IMF is saying very clearly that if slow growth continues in the UK the Government should change course and adopt steadier deficit plans. But since this is now the third time this year the IMF has downgraded its forecasts we can’t afford to just sit back and wait for things to get worse.

4.12pm: Greek officials have been working around-the-clock on a new round of austerity measures including more job losses in Greece’s private sector, our correspondent in Athens, Helena Smith tells me.

The Greek government is racing to get its numbers right, by the time finance minister Evangelos Venizelos holds a second round of emergency talks with representatives of the EU, IMF and ECB this evening (at 6pm BST).

More from Helena:

Next year’s budget, which the government has brought forward to early October, has been concentrating minds as officials flesh out details of how they will hit a budget deficit target of 6.5 percent of GDP.

Sources close to the “troika” of creditors say the lenders want cast-iron guarantees that Greece won’t miss any budget targets this time round – after a €2bn budget shortfall was presented earlier this month.

The horse-trading is expected to be fierce when Venizelos, one of Greece’s finest orators, takes the teleconference call at 8pm Greek time. Mass redundancies in the public sector, along with other measures to shrink the bloated state, will likely be the focus of talks.

But Athens also knows there is little move for manoeuvre and that, as things stand, beggars can’t be choosers. “It’s a tele-massacre” screamed the leftist daily Eleftherotypia summing up the mood.

3.43pm: The IMF has been asked whether George Osborne should relax his deficit reduction plan. Fund economist Jorg Decressin said there were ‘pros and cons’ in such a move, but on balance Osborne should not change course.

Decressin said the advantage of a softer approach would be that the Government would support activity in the UK, while the disadvantage would be the loss of credibility from a U-turn.

He said policy in the UK should only be loosened if “growth threatens to slowdown substantially relative to what we are forecasting”.

So growth of 1.1% this year, and 1.6% in 2012, would not sink Plan A – but any lower, and the Treasury might have to swallow hard and do the politically unpalatable.

3.26pm: The IMF isn’t pulling its punches out in Washington, where economic counsellor Olivier Blanchard has warned that Europe “needs to get its act together”. For a start, it should get the new European Financial Stability Fund up and running as a matter of urgency.

“The Euro zone is a major source of worry. This is a call to arms.” Blanchard said.

More from Larry Elliott at the Washington DC press conference:

Blanchard said the Fund was cutting its growth forecasts because the two balancing acts needed to ensure recovery from the recession of 2008-09 have stalled. Governments were cutting budget deficits but the private sector was failing to make up for the lost demand.

Meanwhile, the global imbalances between deficit countries such as the US and surplus countries such as China looked like getting worse rather than better.

“Markets have become more sceptical about the ability of governments to stabilise their public debt. Worries have spread from countries on the periphery of Europe to countries in the core, and to others, including Japan and the US, Blanchard said.

He added that there was a risk of low growth, fiscal, and financial weaknesses could easily feed on each other.

“Lower growth makes fiscal consolidation harder. And fiscal consolidation may lead to even lower growth. Lower growth weakens banks. And weaker banks lead to tighter bank lending and lower growth”. As a result, there were “clear downside risks” to the Fund’s new forecasts.

3.05pm: Standard & Poor’s is discussing its decision to downgrade Italy’s credit rating on a media conference call.

Among the highlights, the agency acknowledged that Italy’s borrowing costs are likely to remain higher than it would like (partly because certain people keep cutting its credit rating?), and also warns that it can’t exclude the possibility of some Italian debt auctions failing.

However, S&P also said that an Italian default remains an “extremely remote possibility”.

2.28pm: More bad news for Italy – the IMF has slashed its Italian growth forecasts to 0.6% in 2011 (down from 1%). The picture is even worse for next year, when the IMF expects growth of only 0.3 percent (down from 1.3%).

This reinforces S&P’s argument when it cut the Italian credit rating, that the country is unlikely to achieve Berlusconi’s growth targets.

2.06pm: The IMF has also cut its growth forecast for the UK this year, to 1.1%. That’s down from a previous prediction of 1.5%, and well below the government’s current forecast of 1.7% (this was already expected to be cut in this autumn).

Worryingly for chancellor George Osborne, the IMF said the UK is one of three big developed economies at risk of a double-dip recession.

Larry Elliott explains:

George Osborne received a fresh blow on Tuesday when the International Monetary Fund cut its growth forecasts for the UK economy and advised the chancellor to ease the pace of deficit reduction in the event of any further downturn in activity.

If the IMF’s forecasts prove accurate, the UK is on course for a weaker performance than in 2010 and less rapid growth than the 1.7% forecast by Osborne in his March budget.

Again, there’s more from Larry here.

The IMF is holding a press conference to discuss its latest World Economic Outlook report now…..

2.03pm: Breaking news from the International Monetary Fund. It has cut its forecasts for world economic growth and warned that the global economy has entered “a dangerous place”.

My colleague Larry Elliott, in Washington DC for the IMF’s annual meeting, has more details:

The IMF forecast of a slow, bumpy recovery would be jeopardised by a deepening of Europe’s sovereign debt crisis or over-hasty attempts to rein in America’s budget deficit.

“Global activity has weakened and become more uneven, confidence has fallen sharply recently, and downside risks are growing,” the IMF said as it cut its global growth forecast for both 2011 and 2012.

The IMF also cut its growth forecasts for the UK economy and advised George Osborne to ease the pace of deficit reduction in the event of any further downturn in activity.

The IMF’s World Economic Outlook cited the Japanese tsunami and the rise in oil prices prompted by the unrest in north Africa and the Middle East as two of a “barrage” of shocks to hit the international economy in 2011. It said it now expected the global economy to expand by 4% in both 2011 and 2012, cuts of 0.3 points and 0.5 points since it last published forecasts three months ago.

Larry’s full story is here.

1.52pm: Stock markets remain higher today, despite the Italian downgrade, with the FTSE 100 now up 70 points at 5392.

The reason, City traders say, is speculation that the US Federal Reserve will announce new measures to stimulate the flagging American economy on Wednesday night.

The theory is that, rather than launch more quantitative easing and buy up even more bonds, the Fed might instead change the focus of its existing QE programme – buying more long-term debts but reducing its holding of shorter-term bonds.

The Fed could actively sell short-dated assets to fund purchases of longer-dated debt, or just wait until the short-term debt matures and then reinvest in long-dated bonds.

This policy has the snappy name “Operation Twist”, and was last tried in the 1960s.

Joshua Raymond, chief market strategist at City Index, believes the recent rash of weak economic data will entice the Fed into a bout of Twisting:

Ben Bernanke rarely disappoints the market and tends to be very reactive to developments in the world’s economy.

Traders are therefore not completely discounting the potential for an announcement of QE3, but certainly from the murmurs circulating this week this would be unlikely, and an ‘Operation Twist’ type strategy feels more likely at this point.

Debate will rage, though, as to whether that policy will fix anything in the long term.

Wall Street is also expected to rise when trading begins in around 40 minutes – the Dow Jones is being called up 70 points by IG Index.

1.28pm: Back to Italy, where the S&P downgrade appears to be the last straw for the country’s employers’ federation, Confindustria.

The head of Confindustria has come urged Italy’s government to respond to the ratings cut by radically shaking up Italian industry, or resign.

Confindustria President Emma Marcegaglia told an industry event in Bologna that:

We are fed up of being an international laughing stock when we go abroad with our products….The government must either adopt immediate, serious and also unpopular reforms or else, I am not afraid to say it, it must pack its bags and resign.

12.50pm: Our correspondent in Greece, Helena Smith, has been speaking to senior government officials this morning. They are increasingly confident that Greece will get the €8bn loan it needs. It also appears that new austerity measures could be unveiled on Wednesday, with existing cutbacks being accelerated.

Here’s more details from Helena:

Finance ministry officials are saying that Venizelos will likely announce details of new austerity measures (agreed in exchange for the loan) after he has briefed a cabinet meeting due to take place on Wednesday morning (although the timing is not fixed).

At the request of the IMF, which has lead the chorus of frustrated voices over the fiscal progress Greece has made so far, the measures will take a “shock and awe” approach. Thie means the changes will be rammed through and enforced with record speed, rather than the “softly softly” approach that the government has pursued so far.

One official just told me that Venizelos, one of Greece’s most ambitious politicians and a statist par-excellence until recently, is now determined to enforce the revolutionary reforms “irrespective of the political cost.”

Over the weekend he compared himself to Winston Churchill (whose portliness he also shares) saying the time has come for Greeks to fight like heroes (which of course they might do out on the streets).

“We recognise that Pasok (the governing socialist party) won’t be re-elected again because so many of the reforms in the public sector will affect its traditional base, but the country needs to be saved,” the finance official told me.

“We recognised that some people will have to be sacrificed.”

12.05pm: Standard & Poor’s has defended itself against Berlusconi’s claim that its downgrade was politically motivated. In a statement released to the media it said:

“S&P’s assessment is based on a detailed and independent analysis of Italy’s economic and fiscal prospects.”

S&P added that its sovereign ratings were “forward-looking assessments of credit risks provided to investors”.

Zerohedge, the popular financial news site, reckons that Berlusconi shouldn’t push his luck:

@Zerohedge: Italy Says S&P Downgrade Doesn’t Reflect ‘Reality’. Real is rating is CCC?

I’m sure they’re joking. Fairly sure, anyway.

Incidentally it’s not all gloom for Italy today – they did just tonk Russia in the Rugby World Cup this morning by 53 points to 17. A rare triumph for an indebted eurozone country over the rising power of a BRIC economy

11.40am: Quick update from the bond markets: Greece got its auction of short-dated government bonds away this morning, but at a slightly higher interest rate than before.

Greece’s Public Debt Management Agency announced it has sold €1.625bn (£1.4bn) of 3-month debt at an interest rate of 4.56% That was marginally up on the most recent sale, where the interest rate was 4.50%.

So Greece isn’t frozen out of the short-term lending market, although the interest rate is pretty hefty for a three-month loan.

Looking at the longer dated debt, the yield on 10-year Greek bonds has fallen back today (a good sign for the government), to 23.5% (not such a good sign).

11.26am: Louise Cooper, markets analyst at BGC Partners, is tickled by S&P’s warning that Italy’s “fragile government” means it will struggle to deliver its deficit-reduction plans:

I love the “fragile government” euphemism – does that mean Italy is run by a man who has clearly other interests than leading his state back to financial health?

Those distractions include court cases, young women and sex parties, allegations of bribery and corruption and now even the BBC is suing his media company over a pornographic version of Strictly Come Dancing (which is an image I can’t quite get out of my head).

Austerity comes as naturally to Berlusconi as widows and orphans trading in derivatives.

Cooper also points out that Italy’s fundamental problem is its lengthy track record of lacklustre economic growth – its average growth rate between 2001 and 2010 is just 0.2%:

Just like Greece, this is a country that is in urgent need of structural reform – including a reduction in the public sector and improvements to tax collection (a basic function of a highly indebted state one would think). And yet the appetite for these reforms seems pretty minimal with the electorate and politicians preferring the “Dolce Vita”, and who wouldn’t? However just like Fellini’s famous 1960s film, the search for the good life may be fruitless.

11.18am: S&P’s downgrade of Italy will surely remind many that there has been a certain amount of friction, to put it mildly, between ratings agencies and the Italian government (Alex Hawkes writes).

Last month police raided the offices of both S&P and Moody’s.

Carlo Maria Capistro – chief prosecutor of Trani, a small Adriatic port – told Reuters then that his office was checking to see whether the ratings agencies “respect regulations as they carry out their work”.

European politicians have long been critical of ratings agencies, as this piece by the Telegraph’s Ambrose Evans-Pritchard details.

S&P is already in the spotlight in America since cutting its AAA credit rating, with investigators now probing if any of its clients were tipped off early. Clearly this investigation, and the Trani raids, didn’t deter the agency from risking further unpopularity by cutting Italy’s rating now.

11.02am: Stock markets around Europe have emphatically shrugged off the Italian debt downgrade, my colleague Alex Hawkes reports.

We had expected shares to fall again today, but traders appear to have decided that S&P’s move does not fundamentally change the picture of sovereign indebtedness.

Italy’s own FTSE MIB index is up 1.5%, while Spain’s Ibex is up 1.4% and Portugal’s PSI 20 has risen 0.8%. Among the major indexes, the German DAX is up 2.2%, the French CAC 40 is up 1.1%. The FTSE 100 is also up – by 1.7%, or by 87 points, to 5,346.

It also appears that investors are more interested in the situation in Greece, hoping that the conference call scheduled for 5pm GMT today could deliver a breakthough.

10.57am: The Wall Street Journal has written a very sobering article today about the increase in the suicide rate in Greece since the financial crisis began.

The Journal warns that Greece’s society is fragmenting in the face of ever deeper austerity measures, rising unemployment, shrinking GDP, and the sheer uncertainty over the country’s future.

This has led to a 40% increase in suicide deaths this year, with roughly six in every 100,000 people choosing to take their own life. Counselling services have also reported a sharp rise in calls.

The whole article appears to be freely available to read online.

10.30am: The Italian downgrade has helped to push up Spain’s cost of borrowing.

The Spanish government just completed an auction of 12 and 18-month government bonds. It found buyers, but had to pay a higher interest rate (yield) to get the sale away.

The yield on 12-month bonds rose to 3.591%, up from 3.335% a month ago. For the 18-month bills, the yield jumped to 3.802% from 3.592% in August.

Quite chunky rates, given current interest rates (the European Central Bank currently sets its base rate at 1.5%).

10.15am: Has Siemens, one of the largest companies in Europe, itself taken fright at the sovereign debt crisis, my colleague Alex Hawkes asks:

That is the question many are asking this morning after the Financial Times reported that Siemens, which has a bank licence, moved cash from an unnamed French bank and put it with the ECB.

The FT, in its very particular way citing someone “with direct knowledge of the matter” (one wouldn’t want to quote someone who knew nothing about it), said the industrial giant had withdrawn more than half a billion euros in cash deposits.

Siemens has done so, the FT says, partly due to fears over the health of the bank and partly to get a better interest rate from the ECB. But the waters have been muddied a bit this morning. Siemens is saying the story is factually incorrect.

Meanwhile, Reuters is reporting that Siemens did take cash out of Societe Generale, the French bank at the centre of recent fears over the French banking system.
But it did so in July, before the recent crisis began, and did so because the performance of the investment fund it was in had been poor and not because of fears over the health of the bank.

We’re trying to get more information from Siemens this morning.

9.52am: Despite Berlusconi’s early bluster, the Italian media are taking S&P’s downgrade as a sign of the deep problems in the country’s political and economic system.

Our Italian correspondent, John Hooper, points to an article in Corriere della Sera, in which Federico Fubini writes:

This is not just a downgrading of the debt, or rather it is not just that. It is the downgrading of a government, of parliament, of the obsessive armour-plating of an economy in crisis by trade unions, companies with dominant positions in the market, professional bodies and public employees … With something approaching incredulity, S&P’s chronicles the sabotaging of change by almost everyone [in Italy].

Fubini says the message from the agency is clear: “If Italy does not change – and fast – public and private debt will cost (and weigh) progressively more.”

9.35am: More on the Greek situation. Kathimerini, the daily newspaper, is reporting today that PM George Papandreou is considering for a referendum on Greece’s membership of the eurozone. If true, that would suggest either that Greece is trying to strengthen its bargaining position with the EU, or actually considering defaulting on its loans.

However, the story has just been denied by the Athens government – which insists that that Greek people will only be asked to support political reforms, not eurozone membership.

Deputy government spokesman Angelos Tolkas told a Reuters correspondent in Athens: “No. We haven’t discussed such an issue, definitely not.”

Just the mention of a euro referendum, though, could add to the tension, argues Michael Hewson market analyst at CMC Markets:

Whether this story is fact or fiction is open to question given the lack of a verifiable source, however it could well tap into the public mood in Greece given the opposition to the various austerity measures at a local level.

9.05am: Could this be the day that Greece finally clinches a deal to get the €8bn loan needed to avoid an imminent default?

Greek finance minister Evangelos Venizelos has just announced that he will hold another conference call with International Monetary Fund, the EU and the European Central Bank, at 5pm GMT.

Yesterday’s call with the Troika did not deliver agreement over the next instalment of Greece’s first bailout. However, Venizelos’s office insists it was “productive and substantive”.

If Greece does not get the €8bn, it will run out of money for pension payments and public sector wages sometime in mid-October.

Greece is also planning to sell €1.25bn of short-term treasury bills, repayable in just three months, this morning. We’ll be watching this auction to see how much demand there is for Greek debt, and at what interest rate.

8.35am: Italian government debt has fallen in value this morning, pushing up the interest rate (or yield) on the bonds.

The yield on 10-year Italian bonds has risen by around 0.1 percentage point to 5.68% in early trading. Not a massive move. However, Italian yields have already been inching upwards for the past few weeks. If they hit 6%, that would indicate that financial markets have serious doubts about its credit-worthiness.

Greece, Portugal and Ireland all found that 7% is the cut-off point, forcing each country to seek a bailout.

Otherwise, markets are taking the news quite well. The euro has clawed back much of its value since slumping to .359 – it’s now trading at .366.

European stock markets have been volatile – falling at the start of trading (8am BST) but then staging a quick recovery. Italy’s main index (the FTSE MIB) dropped 1.3% at the open but has now rallied upwards – currently up almost 1%, or 141 points, at 14229.

In London, the FTSE 100 is up 13 points at 5273. Nothing to write home about normally – but today it’s a relief that the markets aren’t too alarmed.

8.09am: First the downgrade, then the political backlash. Silvio Berlusconi has just lambasted S&P for cutting Italy’s credit rating – claiming the agency has been influenced by his political opponents and elements in the media.

Or, as the Italian PM put it:

The government has always won the confidence of parliament, thereby demonstrating the solidity of its majority.

Standard and Poor’s evaluation appears to be dictated more by background articles in the newspapers than the reality of things and seems to be invalidated by political considerations.

Berlusconi added the his government is planning new measures to boost the economy – indicating that S&P was wrong to cut its annual growth forecast to just 0.7%.

8.07am: City analysts are in agreement – the S&P downgrade of Italy is a punishing blow to the eurozone – as the tortuous battle over its debt crisis continues. Here’s some early reaction:

Gary Jenkins of Evolution Securities:

Just when everyone was waiting for Moody’s to downgrade Italy, S&P gets in first with what is a much more damaging downgrade as its rating of Italy was already the lowest of the three agencies.

The S&P move is likely to be very negative for sentiment because whilst the market was expecting a downgrade it was probably not expecting one from an agency with the lowest rating which did not even have the sovereign on credit watch, but merely a negative outlook.

Carl Weinberg of High Frequency Economics:

Coming at a time when the world’s financial markets are on edge, warily watching for a default by Greece with knock-on unknown effects on the financial system, the optics of this downgrade stink.

“Perceptions are more important than realities … Investors will be shaken, as if they are not shaken enough already, by what appears to be decaying conditions for another sovereign issuer.

Sony Kapoor, head of economic thinktank Redefine:

This is a downgrade of EU and Italian politicians.

The miserable failure of EU leaders to tackle the problems posed by Greece does little to inspire any confidence that the much larger and more urgent problems faced by Italy would be managed any better.

7.55am: One alarming element of the S&P downgrade is that many City experts had expected Moody’s to cut its own rating in Italy. Instead, the S&P downgrade has come out of the blue. S&P was already the most pessimistic of the three major rating agencies. “A” is only the sixth highest rating on the S&P scale – five places above “junk”.

S&P’s downgrade comes just six days after the Italian parliament voted for a tough austerity package that it designed to eliminate Italy’s budget deficit by 2013. Those tax rises and spending cuts were meant to avoid a downgrade, but S&P isn’t convinced, for three reasons:

First, we view Italy’s economic growth prospects as weakening.

Second, nearly two-thirds of the projected budgetary savings in the crucial 2011-2014 period rely on revenue increases in a country already carrying a high tax burden.

Third, market interest rates are anticipated to rise.

Higher interest rates would push up the cost of servicing Italy’s debts. The country already has a debt-to-GDP ratio of around 120%.

On the growth side, S&P cut its outlook for Italy’s growth to an average of just 0.7% a year for 2011 to 2014, from a prior projection of 1.3%.

7.50am: You can see the key parts of the S&P statement over on FT Alphaville.

7.40am: Good morning. Standard & Poor’s has cut Italy‘s credit rating overnight, down from A+ to A with a negative outlook. The move piles new pressure on Silvio Berlusconi and fuels fears that the country will be dragged deeper into Europe’s debt crisis.

Stock markets in Asia have already fallen, and European indices are expected to open lower, as analysts digest the implications of the downgrade.

S&P’s announcement came as Greece keeps battling for the €8bn (£7bn) loan it needs to stave off imminent default. And with world leaders gathering in Washington for the annual meetings of the World Bank and the International Monetary Fund, it should be a busy day … © 2011 Guardian News and Media Limited or its affiliated companies. All rights reserved. | Use of this content is subject to our Terms & Conditions | More Feeds