€ 20 bln start in Italy
On Monday, the Italian government said it would seek the permission of parliament to raise EUR 20 bln in new debt to fund the recapitalisation of the country’s weakest banks. Although Italy’s politicians had been earnestly hoping to avoid overt state involvement in bank restructuring, this could well turn out to be a positive development. Coupled with encouraging progress towards the private sector cleanup of Italy’s biggest bank, a well managed state rescue of the half dozen or so frailest banks would provide a boost to Italy’s growth prospects amid an accelerating eurozone cyclical upturn. Yet bank restructuring can only achieve so much. With little chance that Rome’s dysfunctional political system will be able to tackle the country’s deeper structural weaknesses in the foreseeable future, any relief from Italy’s economic malaise is likely to prove temporary.
Finance minister Pier Carlo Padoan described Monday’s request for an additional EUR 20 bln in debt as a “precautionary measure”. It appears the appeal was prompted by dwindling hopes that private sector investors will be able to cobble together a EUR 5 bln capital raising for Banca Monte dei Paschi di Siena, after the managers of Italy’s Atlante 2 bank rescue fund expressed “strong reservations” about the proposed transaction. Those reservations were later retracted. Nevertheless, financiers will still struggle to seal a deal by the December 31 deadline imposed by the European Central Bank, given that BMPS has already burned through EUR 12 bln in new capital since 2009, without any obvious improvement in its balance sheet. Some 36% of the bank’s loan book is still classed as non-performing (see chart).
As a result, a state-backed recapitalisation and restructuring still looks probable. Most likely this would involve compensation for the retail holders of EUR 2 bln of BMPS debt who would have to be bailed-in under new European Union rules on state aid, although how that would be squared with Brussels remains unclear.
Much depends on how the restructuring of BMPS and a handful of smaller failing banks is handled. Last week Unicredit, Italy’s only global systemically important bank, announced bold plans to raise EUR 13 bln through a rights issue, restructure its operations, and offload EUR 17.7 bln of non-performing assets to third party managers. The proposed surgery is radical. The bank is looking to cut 14,000 staff and 944 branches, while reducing its NPL ratio from 15% to 8% over the next three years and raising its return on equity to 9%. The prospect of a well managed rescue of Italy’s weakest banks would strengthen Unicredit’s counterparties and boost investor sentiment towards the sector as a whole, increasing investor appetite for private sector deals launched by Unicredit and Italy’s other (relatively) strong banks. Conversely, a mishandled bail-out for BMPS would raise the risk of contagion, diminishing the prospect of private sector participation in other restructuring deals.
In consequence, the promise of EUR 20 bln in new state aid for the weaker banks is a near term positive. However, even successful bank sector restructuring cannot solve Italy’s problems, because the sector’s troubles are a symptom not the cause of Italy’s economic malaise. Italy’s NPLs are not the result of a credit bubble, as in Spain, but rather of a decline in productivity and growth that long pre-dates the financial crisis.
With the resignation as prime minister of Matteo Renzi following the referendum defeat this month of his proposed constitutional reforms, there is little chance that Italy’s legislative logjam will be broken in the foreseeable future. That means there is no prospect of the deep-seated structural reforms of Italy’s relatively rigid labour market, its protected service sectors, its glacial judicial system and skewed insolvency processes that are needed to catalyse growth over the longer term. As a result, while steps towards bank restructuring bode well in the near term, it remains hard to be optimistic about Italy’s long run prospects within the eurozone.