Italian populist parties rattle markets

While Italy is not on its way out of the EU, there are good reasons to be worried, says Nordea Markets Chief Analyst Jan von Gerich.

Attempts to form a government in Italy have been underway since the country’s parliamentary elections in early March. Lately, the anti-establishment Five Star Movement (M5S) and the anti-euro and anti-immigration Lega Nord (LN) appear to have found common ground – a coalition we previously pegged as the worst possible outcome from a market perspective.

Even if talks between these parties have been going on for some time, markets experienced a rude awakening this week when the parties’ draft government programme was leaked on Monday. Among other pillars, the draft called for:

  • Finding options for a country to leave the Euro area and regain monetary sovereignty
  • Asking the ECB to cancel EUR 250bn of Italian bonds bought as part of its quantitative easing programme

The parties have since walked back on these points. The latest version of the programme does not include anything on a euro-exit mechanism, while the EUR 250bn debt relief request was converted into asking for ECB bond ownership to be excluded from EU debt calculations. In addition, the new version calls for changing EU treaties, revamping the EU’s Stability and Growth Pact and reviewing the ECB’s monetary policies – all very controversial topics.

No euro exit, but a worrying outlook

Nordea Markets Chief Analyst Jan von Gerich says that while Italy is not about to abandon the euro, there are good reasons for markets to worry.

“While the most recent version of the government programme does not include any questioning of Italy’s Euro-area membership, the government’s stance could easily change, when it becomes clear that their demands will not be met on the EU / Euro-area level,” he says.

In a scenario of renewed market pressure and no further support from the ECB, euro exit plans could quickly come back on the table, he adds.

 

In a scenario of renewed market pressure and no further support from the ECB, euro exit plans could quickly come back on the table.

- Nordea Markets Chief Analyst Jan von Gerich

This week’s developments triggered a sharp sell-off of Italian bonds, although recent turns have brought some relief.

Short-term, the Italian news flow is likely to be more a source of volatility than a big trend setter, according to Jan. However, in the coming months and years, the Italian situation will likely have a negative effect on the entire Euro area. It can act as a brake for the ECB’s QE exit plans, the rise in core bond yields and the euro.

Read the full research piece: “Italy: Is the survival of the euro really at play again?”

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