People walk at Rabin square as the municipality building is lit in the colours of the Italian flag in solidarity with the coronavirus situation, in Tel Aviv, Israel March 15, 2020. Picture: REUTERS / CORINNA KERN
People walk at Rabin square as the municipality building is lit in the colours of the Italian flag in solidarity with the coronavirus situation, in Tel Aviv, Israel March 15, 2020. Picture: REUTERS / CORINNA KERN

Rome — Investors are turning their attention to one of Europe’s biggest time-bombs: Italy’s stressed financial system.

The coronavirus outbreak and the resulting lockdown will have a significant effect on GDP, and Italy plans to spend as much as €25bn to blunt the damage of a nationwide lockdown to businesses and individuals.

That means Europe’s most dangerous stock of public borrowing — about €2.4-trillion mainly on the balance sheets of banks across the EU — is going to get bigger.

Exposure to Italy

European banks are holding more than €446bn of sovereign and private Italian debt, based on a Bloomberg analysis of European Banking Authority data. As the coronavirus outbreak spreads to other countries, the Italian debt will be a double burden to financial systems dealing with economic pressure at home.

Double trouble

French banks are the most exposed among non-Italian lenders if a sell-off in Italy starts to spread through Europe’s financial system. The country’s two largest banks, BNP Paribas and Credit Agricole own retail units in Italy. Bank of France governor Francois Villeroy de Galhau will propose changing capital rules for banks at a meeting of France’s stability council next week.

Doom loop

The Italian government has to sell more than €400bn a year to keep its debt in check, which forces domestic banks to buy even more debt, a situation known as a doom loop, where a weak economy and weak banks feed into each other.

Fallout from the coronavirus outbreak could undo years of painful restructuring by Italian banks. A prolonged lockdown in Italy may boost bad loans that banks have worked for years to reduce and revive the spectre of bailouts, sending the whole sector into a crisis.

Bloomberg