Political risk in Europe was largely ignored in international markets because of the mirage of the so-called “Macron effect”. The ECB’s massive quantitative easing program and a perception that everything was different this time in Europe added to the illusion of growth and stability.
However, a storm was brewing and the same old problems seen throughout the years in Europe were increasing.
In Italy, the shock came with an election that brought a coalition of extreme left and extreme right populists. Disillusion with the Euro was evident in Italy for years, as the economy continued to be in stagnation while debt soared. However, international bodies, mainstream analysts, and banks preferred to ignore the risk, instead continuing to announce impossible growth estimates for the following year and science-fiction banks’ profitability improvements.
Italy’s economic problems are self-inflicted, not due to the Euro. Governments of all ideologies have consistently promoted inefficient dinosaur “national champions” and state-owned semi-ministerial corporations at the expense of small and medium enterprises, competitiveness and growth, labor market rigidities created high unemployment, while banks were incentivized to lend to obsolete and indebted state-owned companies in their disastrous empire-building acquisitions, inefficient municipalities, as well as finance bloated local and national government spending. This led to the highest Non-Performing Loan figure in Europe.
Now, the new government wants to solve a problem of high government intervention with more government intervention. The measures outlined would imply an additional deficit of some €130bn by 2020 and shoot the 2020 Deficit/GDP to 8%, according to Fidentiis.
Italy’s large debt and non-performing loans can create a much bigger problem than Greece for the EU. Because this time, the ECB has no tools to manage it. With liquidity at all-time highs and bond yields at all-time lows, there is nothing that can be done from a monetary policy perspective to contain a political crisis.
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