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Euro volatility under control

The spike in Italian and Spanish debts reminds the market that the eurozone's problems have not gone away but this time the EU is ready with a response
February 6, 2013

The ebb and flow of confidence in Europe was well-illustrated this week by a sudden spike in the price of Italian and Spanish debt, with a corresponding fall in yields for assets such as German bunds, and even Norwegian and Austrian bonds. The episode was caused by a combination of banking and political scandals in Italy and Spain, along with the inexplicable political rise of Silvio Berlusconi. But, fundamentally, with parts of the EU starting to return to growth, the currency bloc is in much better shape than this time last year.

The scandal engulfing the Monte dei Paschi bank in Sienna involves a complex set of loss-making derivative trades. The fact that an Italian bank is engulfed in a scandal is not unusual except for the involvement of the European Central Bank. ECB head Mario Draghi was quickly informed of Monte Di Paschi's woes by Bank of Italy inspectors after the ECB took up its bank oversight powers in January. As well as its prudential role overseeing banks, the ECB also has the option of using its balance sheet to bring down the yields on sovereign debt in Italy and Spain, suggesting that the euro's governing institutions are learning quickly how to cope with volatility in the debt markets.