A new 50 euro currency bank note is displayed during its unveiling at the European Central Bank (ECB) headquarters in Frankfurt, Germany. (Photographer: Alex Kraus/Bloomberg)

Italy's Political Crisis Rekindles Investor Fear of Euro Breakup

(Bloomberg) -- Italy’s political stalemate is forcing investors to once again contemplate the survival of the euro.

A gauge measuring the likelihood of Italy leaving the currency union within the next 12 months jumped to 11.3 percent in May from 3.6 percent in April, according to research group Sentix. That’s pushed an index for the entire euro area to 13 percent, the highest level in more than a year.

Italy's Political Crisis Rekindles Investor Fear of Euro Breakup

“The difficulties in forming a government in Italy and the prospect of a euro-critical alliance between Lega Nord and the 5-star party have alarmed investors,” said Manfred Huebner, managing director at Sentix.

Italian bonds have tumbled over the past days, pushing yields to levels not observed in several years. The Italian-German bond spread is the widest since 2013.

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“Italy’s populist parties are putting the country’s finances on an unsustainable track before even having spent a single euro. If government bond yields were to rise another 100 basis points -- after having climbed by that amount over the last two and a half weeks alone -- the country’s mound of debt would over time become too expensive to finance, according to Bloomberg Economics’ calculations.”

--David Powell, Bloomberg Economics

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But unlike previous episodes of financial-market stress, when turmoil spilled readily into neighboring countries, risks seem to be contained. A measure for contagion risk fell to 34.3 percent from 43 percent, according to the report.

“This surprisingly positive indication is due to the fact that the likelihood of other countries leaving the bloc has so far been virtually unaffected by Italian capers,” Huebner said. “The stabilization efforts of recent years have not been entirely in vain.”

Sentix polled 1,000 institutional and retail investors between May 24 and May 26.

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