Europe's make or break moment: Italy default

According to Jan Lambregts of Rabobank, the make or break moment for the eurozone will come if Italy defaults.

In an interview to CNBC-TV18, Lambregts says that the region will be able to withstand a Spain bailout, but will be forced to move towards either a fiscal union or a break up if Italy defaults. “If Spain were to fall, all the pressure were to fall on Italy and Italy is truly too big then to bailout. That would be the make or break moment in Europe, the moment at which they will have to move to closer fiscal union or allow it all to fall apart,” he said. Below is an edited transcript of his interview with Latha Venkatesh and Ekta Batra. Q: Spanish yields aren’t going below 7.5%, so how is the problem headed? A: I think it is very much heading one way and that is that a comprehensive bailout for the Spanish sovereign is becoming very hard to avoid. You remember that not too long that Spain, the sovereign, had said that it had a hole in the balance sheet of its banks, not quite sure how large, but that they would like to receive USD 100 billion from the eurozone because essentially they cannot raise it anymore. Over the past week, there have been multiple regions in Spain getting skeletons out of the closet and saying that they have a bit more debt than they previously thought, a bit more deficits than the previously thought. All of that adding to the picture, and increasingly with the yields that Spain must pay, remember 7.5% over that in Spain now for long-term yields, is not sustainable. The big problem there is not so much Spain, which you might be surprised I say, because Spain can still be bailed out. It is next step there because after Spain it would immediately move on to Italy, where yields have already risen to quite high and elevated levels. So if Spain were to fall, all the pressure were to fall on Italy and Italy is truly too big then to bailout. That would be the make or break moment in Europe, the moment at which they will have to move to closer fiscal union or allow it all to fall apart. Q: Do you think Angela Merkel can convince her voters to part with more cash to help Spain in the first place? A: Not in normal circumstances, not when everything is hunky dory so to speak, then there is no way Angela Merkel can sell this to the regime of populist, which of course is adverse to transferring money with little obligations seemingly to the periphery of Europe. But the problem is that the pressure has to be in the cooker, the Germans have to stare into the abyss, because only when they stare into the depths of that will they understand that it’s their own wealth. The icing on the cake is that Germany needs the countries to import still, that is the rest of Europe, because most of Germany’s exports go to them, and that is where German interest comes. So the crisis has to get so bad that the Germans will understand that in the end there are only bad options on the table but this is the least of the bad options. _PAGEBREAK_ Q: It is a series of countries that we are talking about. The latest was Greece and now there is possibly Spain and Italy is not ruled out either. If push does come to shove, do you think that Germany will support Italy as well? A: I think basically your question comes down to how do we get to one minute before midnight. How do we get to the point where the pressure becomes so big that ultimately the core of Europe will agree to a more comprehensive fiscal and political union, which involves a certain degree of bailout for the other countries. As the crisis will have reached a billowing point, how do we get the ECB to act as a bridge loan to print money and buy bonds to calm things down as the new structures for Europe are being built. The key problem in Europe has been that there has been a monetary union without a matching fiscal and political union. Such a system always has weak links, whether that’s Greece, Portugal, Ireland, Spain or Italy doesn’t matter. We have likened to crisis at times to a salami crisis where you go slice by slice. The current slice is Spain, but the next slice is Italy. How do you get to one minute before midnight? Well there are two roads really. It could be through Greece and Greece exiting the eurozone, but we think that is not very likely. We have dragged Greece along for so long now that we can carry them for a while longer, despite all the hardboard the IMF was playing over the weekend. More likely it continues to be the roads through Spain and Italy, and it simply goes through rising yields. As the market loses confidence in the system, the yields in these countries start rising to unbearable, unsustainable levels which simply are not fund sustainable on the longer term horizon. That moment can be quicker than we all think here. Spain is on the edge of the abyss already and Italy will be peerlessly close after which the markets lose confidence. This can literally move in weeks, so there is really a story to watch here. We believe that when it is the moment of truth, Europe will blink the core countries will step up to the responsibilities. Too much is at stake here to let it all go, but it requires more and more confidence. Some people say we are euro optimists, but we do say we are euromantics increasingly. Q: So you don’t see exits, you see more cohesion? A: Absolutely. Q: What happens more immediately? What happens to the euro in the next two weeks? Does it plunge way below 1.20 and will all risk assets see a big selloff? A: There could be a very serious risk-off moment associated with getting to the edge of the abyss.