All eyes on Italy and its economic troubles

IT’S worth a look at what is going on in Italy right now, because that has the potential to upset markets.

Prime Minister Matteo Renzi is generally seen by investors as a good thing because he is trying to push through reforms that will improve Italy’s long-term economic performance.

However, getting anything done in Italy is difficult owing to the parliamentary system, so he is also proposing reforms to the constitution that will concentrate legislative authority, doing away with a system in which the upper and lower houses have equal powers, effectively abolishing the Senate as an elected chamber and sharply reducing its ability to veto legislation.

As there was not a sufficiently large parliamentary majority to enact the amendment, it is being put to the country in a referendum.

The problem is that Renzi is also trying to tackle the bad debts of the Italian banking system, which amount to well over €300 billion, or around a fifth of GDP which, incidentally, hasn’t grown for a decade. Banks have been encouraged to raise their own new capital, but the quantum is too great. So Renzi wants to use a state-controlled “bad bank” to buy these non-performing loans.

With Italy itself struggling to conjure up the proposed funds, it approached Brussels for help, but new rules implemented in January mean that other stakeholders, potentially including bondholders and depositors, must take their share of the pain first, and that would be extremely unpopular as a large stock of Italian bank bonds is owned by retail investors.

It is thought that EU leaders, as is their want, will eventually come up with a muddle-through solution.

It means the referendum could effectively turn into a vote of confidence in Renzi – he has said he will stand down if his reforms are not supported – and membership of the EU.

No government has completed a full term in Italy since World War Two, making it difficult to reform an economy where debt-to-output is second only to Greece in the euro zone. John Wyn-Evans is head of investment strategy at Investec Wealth & Investment