Italy: New coalition government takes charge
The fall of Italy’s populist coalition on August 20th sparked fears of snap elections and a renewed bout of political and economic uncertainty. However, the far-left Five Star Movement and the centre-left Democratic Party formed a new coalition government to stave off the threat of a rapidly rising far-right. The new government is likely to boost market confidence and improve ties with the EU in the short run. However, the long-term viability of this partnership remains unclear.
Fall of the populist coalition
Prime Minister Giuseppe Conte was compelled to resign on August 20th, ending the fourteen-month alliance between far-right Lega and far-left Five-Star movement (M5). Matteo Salvini, leader of Lega, was prompted by the party’s impressive showing in the 2019 European elections to table a vote of no-confidence in the government. He was hopeful of sparking snap elections, utilising his popularity, and gaining an outright majority in Parliament.
However, the Five-Star Movement to avoid fresh elections entered negotiations with the centre-left Democratic Party (PD) to form a new coalition government. This partnership was considered unlikely since M5 had risen to prominence based on its anti-establishment rhetoric. Leaders of the PD, including former PM Matteo Renzi, have faced challenges because of M5’s expressions. In a break from predicted trend and to potentially halt Salvini’s mass appeal, both sides formed a coalition government with Conte at the helm again – they were sworn in on September 4th.
Economic risk implications
This new left coalition government will considerably reduce Italy’s political risk premium and soothe investors across the Eurozone. The counterfactual scenario of an election and a potential Lega majority government with Salvini at the helm would have had different economic implications. It would almost certainly have led to another showdown with Brussels over fiscal policy, given the party’s long-standing policy commitment to introduce a flat tax that would cost approximately € 50 billion. In stark contrast, a PD-M5 government is likely to be mindful of EU deficit limits.
The Democratic Party has traditionally maintained a pro-EU stance and will be more respectful of governmental constraints. This increases the likelihood of the new government finding the €23 billion in cuts that are necessary to prevent an automatic increase in VAT which would kill off the nascent economic recovery. The appointment of Roberto Gualtieri as Finance Minister reinforces the new government’s commitment towards fiscal prudence and maintaining healthy relations with Brussels.
Gualtieri has been an influential member of the European Parliament, leading the Economic and Monetary Affairs Committee of the EU and helping to shape the EU’s financial integration plans. His appointment will be welcomed in Brussels and signals the new government’s determination to work with the EU and restore market confidence in Italy.
Sustainability of the new government
While the formation of this new left-wing coalition government is likely to boost investor sentiment in the lead up to the annual budget, the medium to long-term prospects for the Italian economy remains unclear. This is primarily because it is unlikely that this coalition government will survive until the next elections in 2023. The PD and M5 may have put aside their differences for now, but deep-seated tensions between the two parties remain. Firstly, the initial growth of the Five Star Movement was based on its anti-establishment, outsider status. They often derided the PD as symbolic of the Italian political elite. Therefore, forming a government with them undermines its insurgent appeal.
Moreover, there are significant ideological differences between the two parties. The PD is unabashedly pro-EU and will look to reset relations with the EU after a tumultuous past two years. It also is more pro-immigration and favours investing in big infrastructure projects to boost growth. In contrast, the M5 has often railed against what they see as the overreach of the EU, especially when it comes to fiscal policy. Their stance on migration is more ambiguous; its leader, Di Maio often backed Salvini’s hardline stance on rescuing migrants at sea. Alarmed with the prospect of an election and a potential majority far-right government, the two parties have swept these policy differences under the carpet for now. However, a lack of personal trust and limited ideological convergence between the two erstwhile rivals make it unlikely that this coalition will last as far as the next scheduled elections in 2023.
