Italian general election: continued post-election reforms and austerity measures?

The Italian general election to be held on 24-25 February is expected to result in a compromise alliance between the Centre-left and the Mario Monti-led coalition. This is likely to be sufficient to ensure the continuation of reforms and austerity measures. However, the peculiarities of the Italian electoral system, a sharp increase in support for the Berlusconi-led Centre-right coalition and the unusually large number of undecided voters make the final result unpredictable. Consequently, a further election and continuing uncertainty cannot be ruled out.
BACKGROUND. Mario Monti became Prime Minister in November 2011 after his predecessor, Silvio Berlusconi, was forced to resign amidst a deepening economic crisis and the prospect of facing criminal charges. Subsequently, Montis technocratic government introduced various austerity measures and structural reforms (labour market, pension system) to improve Italian competitiveness. Political stability increased and policies were rewarded by a substantial fall in government bond yields. However, at the beginning of December last year, Berlusconis People of Freedom party withdrew its support for the Monti government, triggering an early election. The Prime Minster resigned and a general election was scheduled for 24-25 February. On 28 December 2012, Monti announced his candidacy as leader of a three-party coalition, his aim being to defend his reform agenda, enabling the continuation of structural reforms and austerity measures. THE ELECTORAL SYSTEM IMPLIES A SUBSTANTIAL RISK OF A HUNG PARLIAMENT. Next weekends poll involves the election of representatives to the Chamber of Deputies (lower house, 630 members) and Senate (upper house, 315 elected members). The Italian

WEDNESDAY 20 FEBRUARY, 2013

electoral system is complex, most importantly because the so-called majority premiums in the upper and lower houses are determined differently. Consequently, a majority in the lower house in no way guarantees a similar situation in the upper, where the premium is calculated on a regional rather than national basis. The difference creates a substantial risk of a hung parliament, making the election result difficult to predict since the outcome may be decided in a handful of key regions. FOUR MAIN CONTENDERS. Only four main election contenders possess sufficient popular support to make a difference; three coalitions (Centre-left, Centre-right and Monti-led) and a single party (the Five Star Movement). The tendency for individual parties to co-operate through coalitions renders them both ideologically and economically diverse. The Centre-left four-party coalition is dominated by Pierluigi Bersanis Democratic Party (PD), which supports Montis reforms while also including several left-wing parties highly critical of his initiatives, especially his labour market reforms. The Monti-led coalition is the most coherent. The three parties seem to agree on its leaders programme targeting Italys weak productivity and growth. Berlusconis Centre-right coalition is an alliance between the People of Freedom (Berlusconi), Northern League and other smaller parties, comprising an ideological mix of conservatism, liberalism and regionalism. Its campaigning has focused on antiausterity rhetoric. Berlusconi has a poor leadership record in devising and implementing effective reforms. The Five Star Movement pursues clearly antiestablishment policies, which include euro scepticism and reform of the political system in favour of greater direct democracy. The party has no policies to solve Italys weak government finances and lack of economic growth. MOST RECENT POLLS SHOW INCREASED UNCERTAINTY. As Italian law prohibits the late publication of opinion polls, the last was released on 8 February. The following table shows results by coalition
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or single political party, based on nine surveys published on 7-8 February. Coalition / party Centre-left Centre-right Five Star Movement Monti-led coalition Other Average 34.7% 28.9% 15.8% 14.0% 6.5% Median 34.4% 28.6% 15.9% 14.1% 6.4%

coalitions, a situation potentially supporting continued reforms and austerity measures, possibly with Monti in charge of the economy. However, the key issue in determining the likelihood of such an outcome is whether the Centre-left Democratic Party will lean towards the Monti-coalition, supporting reforms and austerity or towards the Centre-left SEL party, a vociferous critic of Monti's reforms, especially those affecting the labour market. The second most likely result is a pure Centre-left coalition government. As far as reforms are concerned, this would be a less satisfactory situation as such a government would not depend on the support of Montis more reform-minded coalition. In this scenario, driving through much-needed changes would become much more difficult. ECONOMIC OUTLOOK. Italy faces two main economic problems: weak competitiveness and poor growth. Italian GDP increases have consistently underperformed the rest of the Euro zone, with the former posting an average annual rise of 0.8% and the latter 1.5% between 1992 and 2012.

The Centre-left coalition was most popular with over one third of votes, followed by the Centre-right coalition. Although until recently, the former enjoyed a clear lead over the latter, the gap has narrowed from nearly 15 percentage points in December to only around 6 percentage points in the last polls published. In our opinion, while Monti is a strong administrator he is a much less skilful campaigner, having struggled to build popular support among voters, competing with the Five Star Movement for third place in the polls. FINANCIAL MARKETS HURT BY LATE SURGE IN SUPPORT FOR BERLUSCONI-LED CENTRE-RIGHT COALITION. Italian government bond yields have increased and the stock market fallen on signs of gains by the Berlusconi-led coalition. With no further polls publishable before the election, uncertainty is expected to remain elevated. In addition, unusually large numbers of undecided voters make the final result unpredictable.

Several reforms were implemented by the previous Monti government, the most important of which affected the labour market and pension system. However, continued initiatives are necessary to reverse Italys poor growth record. MOST LIKELY RESULT A COMPROMISE BETWEEN THE CENTRE-LEFT AND MONTI-LED COALITONS. Predicting the result of the election is difficult with several possible outcomes. The recent jump in support for the Centre-right coalition has further increased the risk of a hung parliament, threatening another election and continuing uncertainty. In our opinion, this would be the worst case scenario. However, we believe the most likely post-election result is a compromise alliance between the Centre-left and Monti-led Regarding recent economic developments, GDP has fallen for six consecutive quarters. In Q4 2012, GDP growth declined by a worse-than-expected 0.9%. Currently, economic expansion is adversely affected by weak government finances, with the budget deficit near 3% and public debt above 120% of GDP. To meet its budget deficit target, the government must implement further austerity measures, probably totalling around EUR 9bn.

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We expect GDP to continue to fall in 2013, driven by lower consumption due to the impact of rising unemployment and austerity measures. Investment is likely to stabilise after decreasing sharply in 2012, while net exports will provide some support for growth this year. We forecast GDP to fall 0.9% in 2013 before recovering 0.4% in 2014. However, if the election does not produce a reasonably stable government, growth could be even worse than the present forecast.

Andreas Johnson SEB Economic Research + 46 73 523 77 25 andreas.johnson@seb.se