Italy under pressure

Yesterday, Italian bond yields recorded their biggest daily rise since June of last year. The sell-off was triggered by reports that the two populist groupings Lega and Five Star Movement (M5S) have also discussed requesting a debt write-off from the ECB, as well as euro-exit scenarios, during the course of their coalition negotiations. Admittedly, representatives of both parties have now asserted that such ideas have been dropped from the latest draft document, but this has hardly calmed the market’s nerves. On the contrary, the investor community is gradually coming to the conclusion that a left-right alliance – should an agreement indeed be reached – would entail considerable risks on both the domestic and the Europe-policy fronts. This has rekindled memories of how the incumbent Greek government behaved in the initial phase of its term, seeking a confrontation with Brussels in 2015 and thereby spawning significant market turbulence.

The halting progress in the negotiations taking place in Italy demonstrates the toughness of the struggle between the Lega and the M5S to achieve a compromise. Where both sides are adopting a critical approach in the Europe-policy field, the search for a compromise candidate for the post of prime minister is proving to be especially difficult. It was indeed suggested recently that the two party chairmen, Di Maio and Salvini, could take turns as premier. According to media reports, the parties are aiming at achieving an agreement by the start of next week; if they fail, President Mattarella may still consider appointing a “neutral” transitional government.

Should the M5S and the Lega continue to toy with such mind games and try to implement even a few of them, scepticism towards Italy would presumably grow further. This would be likely to entail further – probably swift and pronounced – risk adjustment on the part of investors.

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