Euro Rallying as Italian Referendum Dashes MS5 Hopes
- EUR/USD dropped around -1.5% around the initial referendum results as anticipated, but markets have been quick to perk up.
- Implications for Italian electoral law may have made the Euro safer from an "Italeave."
Even as the UK Supreme Court Brexit hearings get underway in London, the market remains focused on Rome. The resounding defeat by a margin of either 59-41 or 60-40 (votes are still being tallied) was a strong enough signal to provoke Italian Prime Minister Matteo Renzi to resign following yesterday's Italian constitutional referendum.
While the Euro sold off around -1.5% across the board initially as anticipated, the ramifications of the vote are only now being digested, which are, somewhat perversely, contributing to the Euro's sharp turnaround this morning. As I wrote in the Euro weekly trading forecast ahead of the Italian referendum, "Even in the event of Renzi resigning and with new elections resulting, political gridlock would remain, preventing any significant reform – including legislation to take Italy out of the Euro, if say the Five Star Movement came to power in the next elections."
In effect, the results of the Italian referendum may have made the Euro safer from an "Italeave" (or "Quitaly," or "Exitaly," or whatever terrible euphemism you'd like!) due to the implications for Italian electoral law. That is to say, Italy doesn't have an electoral law at the moment by which a Euroskeptic party to come to power and provoke an "Italeave." This is because the recently rejected constitutional referendum was one of two parts to reforming the Italian legislature.
Part one of the reform, the Italicum, agreed upon over the summer, would reform the Chamber of Deputies (the Italian House of Representatives or Parliament, for those reading in the US or UK) to allow a 'first past the post' winner, the post being 40%, and the winner receiving an allotment of 340 seats (out of a possible 618) automatically. This would give the winning party a clear majority and the runway to enact sweeping legislative reform. Not any longer, it would appear.
The Italicum was agreed upon in this form when Italian PM Renzi's Democratic Party appeared to be far enough ahead in the polls to ward off the Five Star Movement's (MS5 Party) advance; yet this electoral apparatus, if had been implemented, would have paved a clear path for the MS5 Party to gain control of the government via a majority in the Chamber of Deputies.
Instead, now that the constitutional referendum was shot down (the second of the two parts reforming the legislature; this was aimed at the Senate), the Italicum's proposed reform is not going to be implemented. Instead, because Italy now lacks electoral law, the Italicum will need to be renegotiated. It seems highly likely that the old system - one of proportional representation that has contributed to Italy's 63 governments since the end of WWII - will stay as a countermeasure to the rising tide of economic populism in Europe.
While the old system of proportional representation may mean gridlock will continue, it also means that governments will continue to need to be formed by coalitions. This may be the case in the next election, where no single party has a majority in popularity polls at present time; the MS5 may very-well achieve a plurality, but given its stance on leaving the EU whilst refusing to form a coalition with other parties means that the MS5 Party may never actually see one of its members become Italian prime minister.
Looking at the big picture, it's clear that the Five Start Movement won the battle to get Italian PM Renzi out of power. But in doing so, it may have lost the war to achieve ultimate power itself, closing off a pathway for it to take Italy out of the Euro and the European Union.
--- Written by Christopher Vecchio, Senior Currency Strategist
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