It looks like the debt crisis days of 2012 all over again for investors, as Italian, Portuguese and Greek bond yields surged and billionaire George Soros warned of an “existential threat” to the European Union.

The trigger was the prospect of anti-EU, nationalist parties in Italy turning a repeat election into a de facto referendum on Italy’s membership of the euro. Italian assets sank across the board Tuesday, with the risk premium on 10-year bonds over German benchmarks rising to the biggest in almost five years.

“Italy is now facing elections in the midst of political chaos,” Soros said at a speech in Paris, warning that failed economic and immigration policies mean that “it is no longer a figure of speech to say that Europe is in existential danger; it is the harsh reality.”

For all the talk of an economic recovery and a return to stability, recent days have shown how quickly sentiment can get upended on a continent where disillusionment and division are still rife, especially in the south. And there’s little prospect of a let up in political risk over the coming weeks and months.

The euro slipped to a 10-month low of US$1.151 against the dollar before paring losses, while traditional currency havens such as the Japanese yen and the Swiss franc gained.

Uncertainty over Italy, as well the prospect of political turmoil in Spain as the prime minister faces a no-confidence vote, contaminated European periphery markets such as Portugal and Greece. Yields on 10-year Greek government bonds surged close to 5 per cent, complicating the country’s plans for a clean exit from its bailout program in August.

Greek Echoes

It was elections in Greece in 2012 that put the euro region on tenterhooks before the European Central Bank declared it would do anything it takes to support the currency union.

In Italy, it’s a face-off between the establishment and two parties who ran on anti-EU platforms of deficit spending and reduced immigration. It now has investors recalculating the risks of the euro zone’s third-biggest economy exiting the currency bloc.

Italy’s Democratic Party charged its rivals, the League and the Five Star Movement, with having prepared a plan to pull the country out of the euro. That evoked memories of 2015, when Greece’s opposition accused the government of Alexis Tsipras of staging a clash with creditors over austerity as a pretense to leave the currency bloc.

Italy is always just a few steps away from the “very serious risk of losing the irreplaceable asset of trust,” Bank of Italy Governor Ignazio Visco said.

Fear, Not Reality

Panic spread to equity markets, with banks hit the most amid fears about their exposure to Italy. A capitalization-weighted index of euro area banks fell as much as 5.2 per cent to its lowest since December 2016, while Deutsche Bank AG dropped by 3.3 per cent to the lowest since September 2016.

UniCredit SpA Chief Executive Officer Jean Pierre Mustier said the decline in Italian bank stocks was driven by fears rather than reality based on the performance of the Italian economy or the lenders themselves.

“This contagion is the effect of the fear of a potential explosion of the euro zone,” said Diogo Teixeira, chief executive officer of Optimize Investment Partners, a Lisbon-based firm that manages 150 million euros (US$173 million) in assets. He said, though, that “the probability of this is still weak.”

--With assistance from Joao Lima