Updated: Nov 21, 2018
Author: Gestri Hali Co-Vp Research
Italy, a prominent member of the European Union, the third largest economy in the eurozone and a country known for the historical land sights, delicious food and philosophical minds, has recently been experiencing a rough patch in their political and economic stability. However, this is not the first time that Italy has been through political instability. To put this into perspective, Italy has changed 65 governments since the Second World War, while the United Kingdom has had 20 administrations (1).
This time, the political fuss was led by a coalition between the Five Star Movement or M5S and the Northern League or LN. The M5S, led by Luigi Di Maio, claims to be a populist party, meaning that they represent a movement for the people and they do not identify with the left or right political identities. However, many leftist groups criticize the “populist” classification and state that they lean towards the right due to their stance on public policies and taxes. An important factor of the M5S party is that they were, and still are, sceptic of the European Union and have criticized the economic implications of the coalition. The NL party, even though it was founded in 1991, is the oldest party in Italy’s parliament. When the party was founded, it leaned towards the left, however under their current leadership of Matteo Salvini, they are classified as right wing. The NL, as the M5S, is skeptical of the European Union. After the March elections, there was no majority government. So, the M5S and NL had to form a coalition in order to form a majority government.
To form a government the coalition had to select a prime minister (the two parties have to approve the prime minister’s decisions). The coalition picked Giuseppe Conte, a law professor who was accused of lying on his resume by the media after he was picked. Conte, having the duty of electing his cabinet ministers, elected Paolo Savona as his minister of economy. However, Italy’s president, Sergio Mattarella, exercised his power to reject Savona’s appointment due to fear that Savona would consider pulling Italy out of the Eurozone. Italy was left with no prime minister, meaning no government, for months until Matterella approved a reshuffled cabinet, with Savona being the foreign minister (2).
Fast forward to recently, the coalition has dropped their initial referendums, like potential withdrawal from Euro and EU. However, they have promised tax cuts and more government spending, which has left investors concerned. What happens next is going to be a crucial moment for Europe and its markets.
As a result of this prolonged political turmoil, Italy’s economy took a hard hit. As no surprise to many people studying Italian economics, this recession had been long coming due to many other factors other than politics. Looking at the country from an economics point of view, the main factors indicating a worsening economy were the large debt of 2.3 trillion that it has built up throughout the years, their unemployment rates which have been in the double digits since 2012 (graph below), the low GDP and the rising 10-year bond yields which surpassed 3% after the crisis. To shed some light on these numbers, the 2.3 trillion-euro debt is 132% of Italy’s GDP which is double what Germany’s debt is as well as 45% higher than the Euro zones’ 87% debt to GDP (3). The uncertainty on the elections, especially the big question “Will Italy leave the Eurozone?” is keeping investors on the edge in order to decide on their next moves.
Effect on Global Markets
Investors in North America and around the world were not immune to the European trouble. Depending on how much exposure banks have in Italy, meaning how much of Italy’s debt they are holding, the future of Italy could have a big impact on their profits. This applies to banks around the world as well. Depending on how much Italian debt these companies have, a pull from the Eurozone will mean that this debt will not be recovered at the amounts expected. For more concrete impacts, we saw a big hit on global equity markets. The Dow Jones fell more than 450 points, the S&P Financial Sector fell more than 3% and the Italian Indices (scroll below) all took a hit.
(1) https://www.mirror.co.uk/news/politics/crisis-italy-what-happening-what-12617436 – Mirror - May 29, 2018
(2) https://www.cnn.com/2018/05/21/europe/italy-government-intl/index.html - CNN - June 1, 2018
(3)https://www.cnbc.com/2018/05/29/heres-why-markets-are-so-scared-of-the-latest-italian-political-drama.html - Investopedia - May 29, 2018.
The above information does not constitute the provision of investment, legal or tax advice. Any views expressed reflect the current views of the authors, which do not necessarily correspond to the opinions of University of Waterloo Finance Association (“UWFA”). Opinions expressed may change without notice. Opinions expressed may differ from views set out in other documents, including research, published by UWFA. The above information is provided for informational purposes only and without any obligation, whether contractual or otherwise. No warranty or representation is made as to the correctness, completeness and accuracy of the information given or the assessments made.