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Italy’s Five Star Says Final Government Plan Agreed

Photographer: Antonio Masiello/Getty Images

Thursday May 17, 2018
Welcome to TOPLive. Populists in Italy have agreed on a policy program to form a coalition government more than two months after an inconclusive election, setting the stage for political upstarts to take over one of Europe’s biggest economies. Five Star Movement leader Luigi Di Maio and anti-immigrant League chief Matteo Salvini reached a breakthrough following days of talks. Join us for news, commentary and market reaction.
Photographer: Giulio Napolitano/Alessia Pierdomenico/Bloomberg
Latest speculation was that a Five Star lawmaker could get the premiership. A Five Star source said before the meeting of Luigi Di Maio and Matteo Salvini that Di Maio still wanted the premiership.
Both Five Star and the League have yet to submit the government program to their voters. The web-based Five Star will hold an online vote, while the League will hold its vote in piazzas across Italy.
A draft of the program is available on Italian newspaper websites. Party officials have confirmed these drafts, which include large chunks of each party's campaign promises: tax cuts, pension reform, stricter controls on immigration, guaranteed income for the poor, a review of European Union treaties and accounting rules -- just to name a few!
Leaks of the draft before the final version was readied signal it will slash the main tax rate for companies and individuals, introduce a basic income for poorer Italians, and roll back the pension reform that helped stabilize Europe’s biggest public debt pile during the crisis.
Earlier today, the European Commission Vice President Valdis Dombrovskis said that the new Italian government should “stay on course” when it comes to fiscal policy. The country should continue reducing its “budget deficit and public debt, because this is certainly an important risk factor and a drag to the economy,” Dombrovskis said in the European Parliament.
If the parties' voters back the two leaders’ efforts, the ball will go into President Sergio Mattarella’s court. Di Maio and Salvini are expected to report back to the head of state, whose task it is to name a premier, early next week.
The draft program also includes a section on banks that outlines plans to review the Basel banking accords, separate investment banking from retail banking, review lender Monte dei Paschi's strategy, and reimburse retail shareholders of banks that have been wound down. That's not a typo, it says retail shareholders, not bondholders.
So much of the draft plan we've seen is not feasible that the Five Star and League should be concerned about really disappointing their voters. Whole sections involve completely reviewing international accords, or rewriting chunks of basic legislation. Perhaps the only way to enact large parts of the program would be to leave the EU. Which in theory they said they wouldn't for thought.
The Italian-German bond yield spread is now at its widest since January. Investors remain cautious over potential policies by a Five Star/League government. While the coalition downplayed the prospect of a 250 billion euro debt write-off from the ECB, some investors told me damage to market sentiment has been done.
After days of intense negotiations, the leaders of Five Star and League have sealed a deal on the government program, according to a Five Star party official. Yet, a possibly bigger point, the name of the prime minister that the two will propose to President Sergio Mattarella remains to be solved, suggesting that talks between the two are far from over.
While a plan to write off the 250 billion euros of government debt held by the ECB was absent from the agreement, there is still a request to exclude that from official debt-to-GDP calculations. It's not clear what the practical benefit would be, and in any case it would have to be accepted by Eurostat rather than the Frankfurt-based central bank.
The muted reaction in Italian equities may be a sign that for now, investors are choosing to focus on the country's economic recovery and solid profit momentum rather than jitters over populism. Some have warned, however, that those fundamentals -- which have helped send the FTSE MIB Index to the best performance among major European equity benchmarks this year -- may be threatened by some of the potential Five Star/League policies.
Here's a quick CATCHUP of what we know so far:

  • Populist parties Five Star and the League have a deal on a program to form a coalition government, according to a party official, while news agency ANSA says the plan is not final
  • Still no word on who will be nominated as prime minister
  • The parties want to canvas their voters before presenting it to Italy's president for approval
  • The program calls for increased fiscal spending, tax cuts and reviewing international agreements
  • It does not include a proposal to write off billions of government debt held by the ECB, as per an earlier draft
  • Investors are wary of a radical shake-up in an EU founding member, with the yield premium to German bonds the widest since January
A rocky marriage even before they go down the aisle ... Party officials had said during the Di Maio meeting that sticking points remained including on the European Union and immigration.
Even if we have a deal on a program, does it mean we have a government? Not so fast. For a start, we are still waiting for the name of the prime minister. This is pretty bizarre if you ask me: we still don't know who is going to execute one of the most radical economic programs Italy has considered in the post-War era.
Secondly, the Italian President, Sergio Mattarella, has hinted he wants to play a role in the formation of the government. Remember, he has the power to veto any law if he believes it to be unconstitutional. And Italy has a constitutional clause saying the government should balance the budget over the economic cycle. Given the lavish pledges which will no doubt be included in the agreement, I am sure Mattarella will have plenty to look at.
Picking up on Ferdinando: yes, Mattarella's office has made no secret of the fact that he is not amused -- an understatement -- by Di Maio and Salvini starting with the program and dealing with the premiership only afterwards.
For Mattarella, it's putting the cart before the horse -- the ``proper'' procedure is for Mattarella to name a premier first, then he brings a list of ministers and his government plan back to the president.
At least one piece of good news is that bond investors still see this as a domestic issue, and that limits the risk of spillover to Spanish and Portuguese securities. Evidence? A Spanish 10-year bond sale earlier today did really well. Overbidding was at 24c versus 11c for the previous auction and the bid-to-cover ratio rose to 2.25, the highest since the February sale.
Stocks investors want to hear more details on policies -- particularly because many say plans that could affect specific sectors and stocks have been sparse thus far. In the run-up to the March election, traders singled out a populist coalition as the worst-case scenario for Italian equities, with Blue Whale Capital warning that a tie-up between the Five Star Movement and the Northern League would pose a “severe threat to the stability of the EU, given the size of Italy’s economy and the stance of both parties on issues such as the fiscal deficit, the euro and immigration.”
Nordea's global FX strategist Andreas Steno Larsen told my colleague Anooja Debnath that he's unwilling to jump on every headline out of Italy. He's particularly skeptical on "sources" from the Five Star Movement and is taking all the conflicting news with a pinch of salt given "they don't even agree on the most basic stuff behind closed doors within that party."
They've done it again, they're saying they'll close the contract this evening. They've repeatedly blown through deadlines set by the President and by themselves, so who are they kidding! Even if they settle on a contract will they have a candidate for premier? Then they have to consult their voters, then they have to speak to Mattarella. Markets be warned this is nowhere near over, there's time.
Italian bonds seem to be holding up much better today than they did yesterday, even the 50-year. Among the sovereigns, the 2027 Italian eurobond seems to be selling off most. The bulk of the widening this week has been in the government sector and a few of the financials. The size of the bubbles in the chart below represents the amount outstanding, so you can see that it's the government sector causing the most pain.
After speaking to reporters, Di Maio headed to the same Rome restaurant where he had lunch yesterday. It's called Maccheroni, after one of Italy's most popular dishes worldwide. The eating hole is a short walk from Palazzo Montecitorio housing the parliament's lower house and the venue of Di Maio's face-to-face with League counterpart Salvini, possibly the last before the official announcement of a deal.