So much for Germany being insulated from the euro zone’s troubled periphery. German credit default swaps are already beginning to price in the country’s worst nightmare: that it will have to pay a hefty bill for a deepening euro zone debt crisis.
The cost of insuring 5-year German debt against default rose more than 50 percent over the past month to a record high of 118 basis points. French CDS rose around 11 percent over the same period to 189 basis points, according to Markit data. The rise indicates investors are beginning to associate greater risk to holding German debt, even as the triple-A rated bond continues to benefit from safe-haven flows. German Bund futures saw their biggest quarterly rise between July and September since the launch of the euro.
The problem is Germany, the largest sovereign contributor to bailout funds already agreed for Greece, Portugal and Ireland, is expected to pay a high price for any solution to the debt crisis or, given its banks’ high exposure to peripheral debt, for any failure to resolve it.
It could suffer if Greece eventually defaults, as many in markets expect, and if contagion spreads to other peripheral economies. German banks are the second most exposed to Greek and Italian debt and are the biggest holders of Spanish bonds with $177.9 billion in their books, according to data from BIS as at the end of March. Jennifer McKeown, senior European economist at Capital Economics, explains the dilemma:
Developments seem to be edging towards Germany taking on more and more risk relating to peripheral economies. And of course even if there aren’t further bailouts for those economies, Germany’s banks are exposed to the peripheral countries, so they are at risk anyway.