FRANKFURT (Reuters) - Italy's budget crisis is raising broader concerns about the sustainability of its public debt and risks spreading turbulence to others, European Central Bank Vice President Luis de Guindos said on Monday.
With Rome locked in a fight with the European Commission over its plans to raise spending, the ECB has made it clear that it will not step in to bring down Italy's borrowing costs as the rise in yield was the result of the government's breach of EU rules.
"In Europe, we observe re-emerging debt sustainability concerns," de Guindos told a conference. "As regards public finances, Italy is the most prominent case at the moment in light of the overall debt level and the political tensions around the Italian government’s budget plans."
He added that the "strong" market reaction to Italy's spending plans also raised concerns about banks, as they hold large amounts of Italian debt and a fall in bond prices weakens their balance sheets.
The European Commission gave Italy until Tuesday to present a fresh budget plan but political noise out of Rome in recent days does not suggest it is willing to back down, raising the risk of escalation and EU sanctions.
"The strong market reactions to political events have triggered renewed concerns about the sovereign-bank nexus in parts of Europe," de Guindos said. "Although contagion has been limited so far, it remains a possibility."
In addition to debt concerns, de Guindos also singled out a potential downturn in the United States as a risk factor, given that the current expansion is significantly longer than historical norms.
He also pointed to risks from global tensions due to a stronger dollar and trade frictions.
"This could trigger a domino effect – leading to a sharp sell-off and further price pressures in assets with stretched valuations – with the potential to spill over to euro area financial markets," de Guindos said.
(Reporting by Balazs Koranyi; Editing by Francesco Canepa and Kevin Liffey)