Why the iShares Italy ETF Is Vulnerable

Apr.30.10 | About: iShares MSCI (EWI)

Since adopting the euro, Italy’s debt as a percentage of GDP has shot higher than that of Greece, its competitiveness is on the decline and growth has been feeble. Italy’s ETF has been feeling the strain, sinking 12% in the last two weeks.

Uri Dadush for Gov Monitor suggests that Italy should begin to take preemptive steps, including adopting a three-year program to raise its primary balance by 4% of GDP and engineer a real devaluation of 6% through wage cuts and structural reforms. Furthermore, the Eurozone needs to stimulate domestic demand, rely less on exports, maintain expansionary policy and target a weaker euro, adds Dadush.

After the outbreak of the crisis:

  • Italy’s debt has shot up to 115.1% of GDP in 2009, and it is projected that Italy’s debt will increase to 123.5% in 2011 and 128.5% in 2014.
  • With interest rates near 4%, interest costs alone may lead Italy’s debt to grow faster than its slow economy, which is estimated to average 3% over the next seven years.
  • The government has shown some fiscal management responsibility, and spreads on 10-year government bond yields have risen much more in Greece than in Italy.

Italy’s competitiveness has been slowly deteriorating after joining the eurozone because Italy tried to mirror German wages, which kept pace with productivity. A recent European Commission study concluded that from 1998 to 2008 exports of goods and services grew more slowly in Italy than in any other member country.

Failure to deal with the Greek crisis and contain it could lead to a surge in interest on both government and private borrowing, which would stifle Italy’s recovery by forcing its government to further depress exports and incur greater fiscal adjustments. Additionally, sustained global growth could translate into another increase in oil prices, and Italy, which imports 93% of its supply, would be hit again.

  • iShares MSCI Italy Index (NYSEARCA:EWI)

Max Chen contributed to this article.

Disclosure: None