An old spectre has returned to haunt Europe and things could get ugly

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A spectre is haunting Europe: the threat of bond-market contagion. France’s fiscal failures are the source, and now even countries that were supposedly improving their finances are in danger.

Italy, for one, has managed to cut its fiscal deficit, but its macroeconomic recovery is very sensitive to rising yields on its sovereign debt — and hence its borrowing costs. Years of fiscal mismanagement will cause its debt to hit 139 per cent of gross domestic product this year.

Trouble is brewing beyond the eurozone as well. Romania, going through another bout of political turmoil after failing to install a government on September 30, has yields of about 7.3 per cent.

We’re still some distance from a repeat of the 2010-2012 eurozone crisis . But there is a reason the European Union has for a decade lurched from one emergency to another, and why every moment of stress — the 2022 loss of Russian gas, the Iran war, France’s overspending — threatens to push it over the brink. It has consistently failed in good times to prepare for the bad.

Look beyond France at some of the bloc’s apparent successes. When you dig deeper, irresponsibility is rife.

Italy is actually running a budget surplus and Giorgia Meloni’s government has stayed in power for nearly four years, giving the notoriously unstable republic an unprecedented spell of stability. But her government is still demanding that EU rules are bent to let it spend more.

Countries that rack up half-decent numbers reckon that gives them licence to be irresponsible for the next few years, like dieters who think a 10-minute walk allows them to wolf down a bucket of fries.

Consider the Czech Republic. Its populist billionaire leader has announced a budget that would massively increase the deficit to 3.5 per cent of gross domestic product from 2.1 per cent in 2025. Naturally, its bond yields have reached levels not seen since 2022.

Spain is even more disheartening. Prime Minister Pedro Sánchez has called fresh elections, although he’s trailing badly in the polls.

He has run three successive minority governments now, and perhaps hopes he can pull off an unlikely fourth win. The country is blessed by culturally compatible Spanish-speaking migrants, a climate that’s perfect for renewable energy and favourable growth numbers as a result. But there’s been no real fiscal consolidation, even though the headline deficit has fallen.

The OECD points out that Spain’s structural deficit – what the deficit would be if the country grew steadily at its highest sustainable rate – isn’t declining. There’s nothing in the tank for when the engine begins to sputter.

Spain typifies Europe’s problem. In times of crisis, countries look to the rest of the EU for help. In happier times they bank nothing, for themselves or the bloc.

Instead of being a source of strength in a struggling continent, Spain has sought to leave to others the tough job of dealing with markets, suggesting a European-level borrowing facility that could raise money on its behalf.