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With a right-wing populist coalition in the making, could Italian politics threaten both domestic and European stability?
Italian politics has grabbed the headlines this week, as the prospect of a populist coalition between the Five-Star Movement (M5S) and League parties raises a whole host of uncomfortable issues for the EU. The far-right coalition has promised much, yet the delivery of those ideals will require significant changes within the EU, bringing heightened uncertainty for investors.
From a market perspective, the decline in Italian bonds is indicative of a substantial erosion in confidence over the direction of the economy. There is also the prospect of greater conflict with both the EU and European Central Bank (ECB), with talks of debt writedowns, and defiance on a host of issues being touted.
The dominant fear that has been dragging the euro lower has been centered on an Italian exit from the single currency. The potential for ‘Italexit’ strikes fear into the heart of many, yet this is unlikely to be an issue that needs too much consideration, despite previous comments. While there was a clear Eurosceptic theme running through their campaign promises, we have since seen M5S parliamentarian, Alfonso Bonafede, signal that an exit from the single currency is not an option. Instead, we are expecting to see a relatively combative approach from the coalition when dealing with the EU and ECB. Perhaps the biggest potential source of friction with the ECB came in the form of a request to write off 250 billion euros worth of debt. However, today’s key points that have surfaced from talks between both sides have made no reference to this, highlighting an initially diplomatic approach being taken.
However, continued fears would likely continue to play out in the fixed income market, where investors demand an increasingly higher reward for holding Italian debt. Therefore, should we see the coalition indicate a return to their hardline measures, it would be likely that Italian bond prices fall further, driving yields upward.
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