Market focuses on Italy (Daily analysis 02.10.2018)

Several comments from European and Italian officials on Italy's budget and economic condition are creating strong fear in the markets. The euro is cheaper and the yields of Italian government bonds are testing the highest levels since 2014. The zloty is also clearly depreciating. The euro is approaching the 4.30 PLN boundary, and the dollar reaches the 3.73 PLN level.

The most important macro data (CET - Central European Time). Surveys of macro data are based on information from Bloomberg unless noted otherwise.

• A lack of macro data may noticeably impact the analyzed currency pairs.

Italy is a burden to the euro

In the morning, the main currency pair tested levels close to 1.15, while the yields of Italian bonds exceeded the 3.40% limit, reaching over 4-year highs. Most of these changes are the result of the struggle for Italy's budget.

Investors clearly do not like the fact that the deficit path for the next three years will be much higher than expected. September's backstage talks between the Italian Prime Minister, President and Finance Minister regarding the reduction of the fiscal burden by the populist coalition were useless. Now the low level of confidence in the Italian officials has fallen even further, which is additionally boosted by statements from representatives of both the European Commission and the Italian Parliament.

Jean-Claude Juncker, head of the European Commission, said that if Rome "continues to demand special treatment, it will be the end of the euro". According to PAP’s message Juncker added, "I do not want us to have to deal with the same crisis in Italy after the Greek (...) crisis. One crisis is enough.” The comparisons between Greece and Italy were for investors like a red cape to a bull.

Claudio Borghi's statements that were made this morning did not arouse any less emotions. The popular Eurosceptic and the current head of the Budget Committee of the lower chamber of the Italian Parliament stated on Anch' io radio, "I am more convinced that Italy, with its own currency, could solve the problems". Borghi also added that if Rome wanted to confront the European Commission, it would write off 3.1% of the deficit in the budget. In general, this statement would be trivial, if it was not for the fact that Italy could "tall" the prospect of GDP growth, the deficit would be within the EU limit. In the following hours, Borghi (e.g. on Bloomberg TV) straightened up his statements claiming that there are no plans to leave the eurozone. Italian Prime Minister Giuseppe Conte also spoke about the single currency, claiming that it is "irreversible".

In general, it is worth noting that Italy, due to its very weak position, can now be grilled by the market. By mid-October, the budget plan must be sent to the European Commission. However, its hypothetical negative opinion is not binding for Rome. In the following months, the European Commission may simply impose the excessive deficit procedure on Italy, but currently, it is not able to block this budget.

A certain element that can ease the situation is the president's action, who can send the budget back to parliament. The only question is whether the parliament will agree to any changes, since today the leader of the Five Star Movement, Luigi Di Maio, said that the government will not retreat as far as the fiscal plan is concerned. It may also be interesting to note that according to a survey conducted by TECNE for Rete4 42% of the respondents support the government's budget, while 36% are against. This may also be an argument that the populist cabinet will stick to its assumptions, and the conflict with the European Commission will expand. It will also be an argument for the euro to remain under pressure and Italian government bond yields to remain very high compared to other eurozone countries.

Zloty starts feeling economic turbulence

For the last few days, the zloty has been resistant to external events. However, the scale of the increase in risk aversion has also weakened the zloty. The euro is testing 4.30 PLN, and the dollar is growing to the 3.73 PLN. First of all, this is the result of the events in Italy, and a return of the eurozone's disintegration issue and the risks associated with the debt crisis. Even if these risks are very limited at the moment, the events of the debt crisis of 2012/2013 or the Greek crisis are still too fresh for investors to pass by them with no interest.

For the Polish zloty, the conflict between Italy and the European Commission and market disturbances are main risks related to the economic situation in the eurozone and lower chances for interest rate increases in the eurozone. The MPC may also be less willing to tighten monetary policy, if concerns about the economic condition of the single currency area dominate. Additionally, on the global market the dollar is expensive (usually negative information for PLN), and oil grows to 85 USD per barrel, which is bad information for Poland's trade balance. Therefore, the zloty may remain under pressure in the following days, but at this moment a panic sale should not be expected.