Will a No vote in the Italian referendum spark a banking crisis in Italy?
After the Brexit vote and Donald Trump’s victory, many worry that Italy’s constitutional referendum on December 4th could be populism’s next victory. The Italian ‘spread’ over German interest rates — a measure of how risky markets think Italian investments are — has risen back to 1.8 percentage points, roughly the level at the start of the euro crisis in early 2011. But as the economist Paul Samuelson famously quipped, markets have predicted nine out of the last five recessions. In this case, investors are unduly worried, for two reasons.
The first is that the political consequences of an Italian No are less severe than many outside observers have argued, as my colleague Luigi Scazzieri explains. The referendum costituzionale is no Brexit or Trump vote, but a vote on a controversial reform of the political system that will do little to promote better policy-making or more stable governments, according to critics. It is true that Matteo Renzi will probably have to resign if No prevails. But his resignation will not inexorably lead to the ascent of the populist 5 Star Movement. It is more likely that a new caretaker government will be formed, without new elections, under a technocratic figure such as finance minister Pier Carlo Padoan. The main obstacle to deep economic and institutional reforms in Italy is not the broken political system, but a lack of political will that constitution tinkering cannot fix.
The second reason why market worries are overblown is that the Italian banking problem is largely a political problem. A No vote in the referendum, far from leading to a financial crisis, will simply force the Italian government to adopt policies that it has tried hard to avoid for political reasons.
In essence, the Italian banking system has low profitability and loans that have gone bad after years of recession and low growth. Italy’s five largest banks still have €226 billion of non-performing loans on their books, according to the latest data from the European Banking Authority. The world’s oldest bank, Monte dei Paschi di Siena (MPS), is a particular worry, with almost one in three loans classified as non-performing.
If banks are recapitalised by the government, shareholders and some owners of bonds would have to be ‘bailed in’, according to European rules, that is, they would be forced to take losses on their investments. But many bondholders are retail investors — and voters. This is why Italy has tried to find market-based solutions to recapitalise MPS and other troubled banks, which would avoid imposing losses on retail investors. If Renzi loses the referendum, markets may be less confident about Italy’s economic and political future, and could well balk at recapitalising Italy’s troubled banks. But rather than financial panic, the result would probably be a ‘Brussels-mandated’ bail-in of retail investors. What that would mean for the EU’s popularity in Italy, already at just 33 per cent, is a different question.
Christian Odendahl, Chief economist
