Italian borrowing costs reach 14-year highs

USD

The dollar rose on Monday as concerns over Greece shifted to Italy where political uncertainty increased borrowing costs to virtually unsustainable levels, leading to fears that Italy could default, and spread debt contagion throughout the 17 -member block. Even in Athens where the next bailout had been secured by a successful vote of confidence on Friday, concerns lingered that the two opposition parties now expected to come together in the unity government could work together successfully in the difficult task of implementing painful austerity conditions, and concerns persisted that the whole precarious arrangement could unravel at any time. Data from the U.S was muted on Monday leaving the reserve currency more than usually at the mercy of outside factors, although Consumer Credit – not yet released - is expected to show an increase to $5.200bn vs August's fall of $9.501bn at 20:00 GMT . Overall, however the outlook for the dollar remains buoyant given the slight fall in unemployment shown in Friday's data and the lower expectations of further QE as economic metrics in general show signs of improvement.

EUR

 The common currency took a surprise knock on Monday after expectations of a recovery rally following the successful win for Prime Minister Papandreou in the confidence vote in Athens never materialised. Concerns instead shifted to Italy where borrowing costs were climbing to unsustainable levels, with the yields on 10-year Italian sovereign bonds reaching 14-year highs of 6.67%. Investor concerns at a lack of political will to pass the necessary austerity reforms required to reduce the Italian public debt lay at the heart of rising borrowing costs - as well as the enormity of the debt itself. Prime Minister Silvio Berlusconi came under increasing pressure to resign. A key vote on public finances on Tuesday will decide his future, meanwhile if borrowing costs rise any further Italy may require a bailout or restructuring of its debts along the lines of the Greek package. Clearly any sort of default on the part of Italy which is the euro-zone's 3rd largest economy would reek havoc with the euro and have major implications for financial markets across the globe. A sharp drop in Euro-zone Retail Sales also impacted on the euro, with a headline print of -1.5% in September vs -0.5% expected, and German Industrial Production added to the gloom, as it fell by -2.7% in September compared to -0.9% forecast.#

GBP

The pound traded mixed as it fell versus the dollar on increased risk aversion, following a rise in euro-zone debt fears. Concerns shifted to Italy where borrowing costs sky-rocketed to a 14-year high and resulted in fears that the euro-zone's 3rd largest economy might default. Sterling was hit because of the U.K's proximity and exposure to the European crisis and general background concerns about the U.K economy which was given a 50/50 chance of falling into recession by the NIESR last week. Recent commentary by the Bank of England officials and the move last month to use asset purchases to stimulate the slowing economy led to speculation of further easing, which would probably lead to a weaker pound. Even better-than-expected housing data from Halifax failed to impact, although if a trend forms over several months that might change: month-on-month the data showed a 1.2% rise when only 0.1% had been expected. The slightly better outlook for the U.K pound vs the euro led to gains in that pair and sterling is beginning to benefit as a sort of safe-haven for money being transferred from the increasingly pressurized euro.

JPY

  Overall the yen strengthened at the start of the week although gains were quite modest. Increased risk aversion as a result of political uncertainty in Europe and a rapid increase in Italian borrowing costs to virtually unsustainable levels led to an increase in safety demand which the yen capitalised on, although it could have been fears of further intervention which held investors back from buying the currency in large quantities. Reports from the bank of Japan had shown that the authorities probably continued to make interventions of smaller volume last week to help keep the yen at weak levels. On Monday a massive 4.5tr yen selling operation weakened the yen by over 4% and the Finance Minister JenAzumi said it had been done to stem excessive yen evaluation due to "speculative market moves". It is clear the current administration are prepared to use intervention when required and this may lead investors to prefer the dollar as a safe-haven, now as a new round ?of uncertainties in Europe begins to circulate around Italy, so yen moves may remain limited for the foreseeable future although at a full blown crisis point it would be interesting to see how the yen reacted and whether investors would still steer clear of it.