Italy now more risky than Namibia as political risk premium jumps

Sid Verma, Matthew Turner
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Mario Monti's shock decision to step down as prime minister of Italy, and Silvio Berlusconi's declaration to contest the February election, means Italy's political risk score is lower than Namibia, according to Euromoney Country Risk.

Italy’s political risk has shot up, following the announcement by Mario Monti to step down as prime minister after the 2013 budget is approved. The decision will bring the country’s general election forward by several weeks. A report by the Financial Times, published on Monday evening, revealed Monti is in talks with centrist parties to contest the February election, following pressure from his peers and financial markets to stay in elected politics.

Analysts participating in ECR’s survey have been quick to highlight the risks in Italy’s political environment, with former PM Silvio Berlusconi declaring his intention to launch another electoral bid. With a political assessment score of 60.5, Italy is now politically riskier than other eurozone peripheral economies – Ireland, Portugal and Spain; only Greece has lower political assessment score.

This score makes Italy riskier than Oman and Namibia, by one and two places respectively on ECR's political risk rankings.

The decision is an untimely one and comes as European Union leaders approve a debt buyback deal for Greece. However, analysts fear that rising political tensions in Italy could offset any ground made to Greece’s debt restructuring and could hinder the ability of the EU’s institutions to effectively contain the eurozone debt crisis.

Monti’s decision to resign has left the door open for anti-Berlin groups to capitalize on the decision. Silvio Berlusconi’s centre-right People of Liberty (PDL) party has openly opposed austerity measures and German-backed fiscal stabilization measures.

Markets were quick to react, with the FTSEurofirst 300 index down 0.3% and Italy’s MIB index trading down 3.6%. Meanwhile, Italian 10-year bond yields surged to 4.8%, which will likely lead to a rise in borrowing costs.

The announcement also sent shock waves right across Europe: UK’s FTSE 100 index was down 0.2%, Germany's DAX index was down 0.4%, and France's CAC 40 was down 0.6%.

Analysts' reactions have come thick and fast. Alex White, analyst at  JP Morgan:

Little chance of a Berlusconi comeback

"It is too early to tell for certain, but it looks as though Berlusconi has come off badly from his showdown with Monti over the past few days. The premier has been at pains to make clear that his early departure from office has been triggered by the removal of PDL support; and in particular a set of statements from PDL’s secretary, Angelino Alfano, on Friday. In doing so, he has been able to leave Berlusconi looking culpable for triggering a new bout of political uncertainty, in a way which is unlikely to rebound to the PDL’s advantage.

"The timing of Monti’s departure also means that the government will be unable to make planned changes to the electoral law which would have altered the basis on which the vote would have been held. The election will now be conducted according to the existing rules, which provide an in-built majority to the first-placed party or coalition group. This changes the electoral calculus, and means that the PD – who maintain a 30.3% to 13.8% lead over the PDL – will likely to be able to secure an overall majority with their allies in the lower house (although the Senate may be split).

"Our previous working assumption had been that a new electoral system would create a more fractured field and provide a rationale for Monti to remain in office for a short-period as a compromise candidate. This now looks less likely, although it is not impossible that Monti will seek a mandate for himself in association with the centrist movement, or that [Pier Luigi] Bersani may choose to back him as president."

Regional impacts: could heighten focus on Madrid as well as Rome

"Political uncertainty in Italy is the last thing that [German] chancellor [Angela] Merkel wants to see as she works to suppress European risk factors ahead of Germany’s own elections next year. There has been some speculation that Italy could be encouraged to seek pre-emptive OMT support as a result.

"We think this is unlikely, since any such attempt by Monti would play into Berlusconi’s hands and could actually increase the chances of the result which the region most wants to avoid. European leaders are much more likely to react with caution; and we think that the region would be broadly welcoming of a potential Bersani premiership (it is effectively seen as a decent second-best option). Monti hinted yesterday that he expected a 'continuation' of his policies in such a scenario, although the reality is much less clear.

"We think the impact of last week’s events is just as likely to be felt in Spain; where domestic political factors and market dynamics mean that a Q1 ESM request is still on the table. To the extent that German concerns about regional stability are heightened by an Italian election campaign moving into high gear early in Q1, there is some chance that the balance of thinking in Berlin may tilt slightly more in favour of encouraging a Spanish request (German policymakers are still debating the relative merits of encouraging Spain to delay until after September or go soon, and the regional context will have a strong bearing)."

Jonathan Loynes, chief European economist at Capital Economics:

"Needless to say, this bodes ill for Italy’s fiscal outlook. One hope is that the impending implementation of the ECB’s outright monetary transactions (OMTs) programme to purchase Spanish government bonds will help to keep Italian bond yields down. But this seems unlikely to be enough to ease concerns over Italy’s public debt to GDP ratio of 130% and rapidly rising.

"Indeed, the knock-on upward effect on Spanish yields seen today suggests that renewed worries over Italy could limit the effectiveness of OMTs even for Spain.

"As such, we stick to our long-held view that Italy will need to undertake a substantial debt restructuring (i.e. default) at some point if it is ever to return its public debt to a sustainable level. Against this background, it would be no surprise if the renewed upturn in Italian bond yields goes much further and doubts over Italy’s long-term future inside the single currency re-emerge."