The Italian job

The 86-year-old Italian president, Giorgio Napolitano, is standing firm as the head of state. This old man is one of the few people Italians can still turn to in their bid to find a way out of the spiraling crisis.

"Swift action is needed in order to restore trust in the credibility of the financial markets," Napolitano said in Rome this week.

The president has managed to appeal to the conscience of the outgoing Prime Minister Silvio Berlusconi and to lay down a tight timeframe for reform, so that by the time markets open on Monday morning, Italy should have a clear path out of the debt crisis.

On Friday and Saturday the two houses of parliament will adopt a comprehensive reform package, designed to restructure Italian state finances and improve its ability to compete. For months, the conservative Berlusconi put off making such decisions, until it went too far even for fellow European Union leaders. Berlusconi was forced to sign up to putting the measures in place. Within a short time the laws should pass through both the senate and the lower house of parliament. Whether or not they will find a majority remains unclear.

Task falls to the transitional government

Once the laws have been passed, according to Napolitano, the failed Berlusconi could step down as early as this weekend. Directly after that, Napolitano wants to appoint the former EU Commissioner Mario Monti to form a transitional government made up of so-called technocrats.

It will be Monti's task to prevent Italy from falling into a situation where it is unable to pay its debts, and to secure funding via the capital markets within the next few months. Berlusconi's party appears to be ready to drop its demands for new elections, at least for the moment. The socialist opposition party is also not seeking new elections, due to a lack of suitable candidates.

In reality, Italy has little time for elections. The entire strength of its politicians must now go toward winning back the trust of the financial markets, according to a warning from the president of the industrial association Confindustria, Emma Marcegaglia. "We do not deserve to end up like Greece," she said.

Italy clinging to the European Central Bank

It seems Italy's politicians began to see reason as a result of the huge pressure building up in the financial markets. Interest rates, which Italy has to pay for its government bonds, breached the 7 percent barrier on Wednesday.

For Portugal and Ireland that marked the threshold where they had to seek financial assistance from the rest of the eurozone and from the International Monetary Fund. Italy's finance minister has to refinance some 37 billion euros of debt. In the coming year some 304 billion euros ($413 billion) in old government bonds are due for repayment. With interest rates at 7 percent, that would be frankly unaffordable.

For the banks that have bought Italian government bonds, the situation could also be precarious. Investors, who no longer trust Italian government debt, will also be reluctant to lend money to or buy stocks from banks that have been exposed to the debt. That's why, once more, huge demands have been placed on the European Central Bank.

The ECB is buying up Italian bonds on the so-called secondary market - from other banks or creditors - in order to try to steer the course of the market. However, in the long run, the ECB can't afford such investment. It has already spent an estimated 160 billion euros in buying up government bonds from troubled eurozone states.

Rescue fund too small for Italy

If the Italian government - whatever form that may take - should fail to come up with a coherent way to clean up its state finances and win back trust, it will be hard to know what to do. As EU Finance Commissioner Olli Rehn knows only too well, the Italian economy is too big to be bailed out by the current eurozone rescue fund.

Italy makes up around 17 percent of the eurozone economy; Greece on the other hand amounts to just 2.5 percent. Even the recently expanded European Financial Stability Facility (EFSF) would not stretch far enough to keep Italy in the black.

Furthermore the famous "lever" still hasn't been found. Euorzone finance ministers are still working on the concrete mechanisms for the EFSF, which is to be expanded from 440 billion to 1 trillion euros.

European banks will also struggle to withhold a further deterioration in the Italian economy, or shortfalls in payments. At the moment even the Greek haircut hasn't been finalized. Negotiations with the banks continue. The banks will only really have enough capital by June 2012 to endure bankruptcies of smaller states, but not on the scale of Italy.

Future of the eurozone

Italy also has to help itself. That was the message from the last summit of European Union leaders at the end of October. Germany was quick to reject an unlimited support for Italy via the European Central Bank. That would mean that the ECB would fire up its money printer and offer unlimited means for disposal, a method favored by the UK and the US. For the moment, German Chancellor Angela Merkel has rejected this form of "quantitative easing," as has the president of the Bundesbank, Jens Weidmann.

The coming weekend could not only be decisive for Italy, but could also help to decide the entire future of the eurozone. Many analysts are agreed: if Italy needs drastic financial help, that would threaten the whole future of the 17-state single currency. However, Italian banker Alessandro Profumo told the German business newspaper Handelsblatt that Italy isn't in such a terrible economic position, just that its credibility has hit rock bottom.

"Italy has a lot of wealth: strong industry, huge private wealth and it has the ability to make the country function well," said Profumo. The level of new debt is relatively low, he added. What was lacking, he went on, was simply good government, good management.

Merkel has said that the stabilization of the eurozone in its current form is her highest priority. "It's important that the political leadership in Italy is cleared up as soon as possible. Because I believe that is decisive for Italy's credibility."

Author: Bernd Riegert (AFP, dpa) / ji
Editor: Martin Kuebler