Three More Reasons to Worry About Italy

(Bloomberg Opinion) -- It feels good again to be an investor in Italian government debt. Since the start of September, the yield on the benchmark 10-year bond has fallen from 3.24 percent to 2.79 percent, and the spread with German bunds has narrowed sharply.

Bondholders seem confident that Italy’s finance minister Giovanni Tria will get his way in passing a prudent budget, despite the lavish pledges made by his government colleagues. The Five Star Movement and the League had initially promised a steep cut in income taxes, a generous income support scheme for the poor and a dramatic lowering of the pension age. They’ve toned down the promises, saying their economic program will be gradual.

The market relief is understandable, but probably premature. The government must present its economic forecasts in less than 10 days, and there’s still little clarity over how much borrowing it will target. Tria is reportedly aiming for a budget deficit equal to 1.6 percent of gross domestic product, to avoid a confrontation with the European Commission. The two parties would like to push it higher.

Most important, the focus on the budget may be distracting investors from three other dangers brewing in Italy. These may matter more than whether Italy’s budget deficit ends up at 1.6 percent or 2 percent of GDP.

Political Risk

The early lesson from this government is that the League and Five Star have very different economic constituencies. The latter is closer to the trade unions, and wants to strengthen the bargaining position of workers while supporting the low-paid and unemployed. The League represents many entrepreneurs from the richer North, and would prefer to cut everyone’s taxes. The split was laid bare in July, when Five Star leader Luigi Di Maio spearheaded a labor market reform that would have made it harder to hire workers on a temporary basis. The League helped water it down, after a backlash from parts of its voting base.

These tensions will re-emerge as the government drafts the budget, which must be passed by the end of the year. Five Star and the League have spent months acting as if all of their economic priorities can be satisfied. Now they have to agree on a pecking order. If their marriage of convenience becomes too fractious, one of the two parties might even prefer an annulment – gambling for a better result in a new election. It’s odd to view the collapse of a populist coalition as necessarily a bad thing. But who knows what might come next? 

The Business Environment

It is, of course, more likely that the government will stay in place until next year at least. But it’s hard to feel optimistic about the kind of business environment that’s emerging, with the government seeking a more dominant role at the private sector’s expense.

Take August’s tragic bridge collapse in Genoa. The government, Five Star in particular, immediately blamed the road operator Autostrade per l’Italia, saying it should be stripped of the licence. Regardless of what you might think about the company – and there’s no doubt that a full and speedy investigation is needed – this makes a mockery of due process. Ministers have toned down the threats subsequently.

Independence of Institutions 

Last week, Mario Nava, head of the securities regulator Consob, resigned under heavy pressure from the League and Five Star. They’d accused him of being too close to the European Commission, which was still his ultimate employer even though he was working on secondment in Italy. Di Maio said he wanted instead a “servant to the state, not to global finance.” 

The choice of his replacement will show how far the League and Five Star actually care about the independence of Italy’s institutions. The fear is they want to use their electoral victory to impose their people on technocratic bodies that are meant to be insulated from politics. This would be a terrible sign for anyone who wants to invest in Italy.

So for all Tria’s efforts, there are plenty of reasons for vigilance.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Ferdinando Giugliano writes columns and editorials on European economics for Bloomberg Opinion. He is also an economics columnist for La Repubblica and was a member of the editorial board of the Financial Times.

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