Opinion

Anatole Kaletsky

Market euphoria misreads the signals from Brussels and Rome

By Anatole Kaletsky
April 25, 2013

Financial markets, which balance judgments from some of the world’s most highly paid and best-informed analysts, are often uncannily right in anticipating unpredictable events, ranging from economic booms and busts to elections and terrorist attacks. But markets can sometimes can be spectacularly wrong, especially when it comes to politics. A classic case was the slump on Wall Street after last November’s election in the United States. This week’s market action in Europe may offer an even clearer example of market confusion about two fascinating but Byzantine political entities – the Italian government and the European Central Bank.

European stock markets have rebounded strongly this week in the face of deteriorating economic and financial fundamentals from across Europe on the basis of two political events: the reluctant agreement by Italy’s 87-yearold president. Giorgio Napolitano, to serve another seven-year term because nobody else could be found to do the job; and hints from ECB council members that they might vote to cut interest rates from 0.75 percent to 0.5 percent next Thursday.

Neither of these events remotely justified investors’ euphoria. The ECB case is straightforward. First, the ECB may well disappoint next week, since several influential decision makers oppose a rate cut. Second, even if the ECB does act, a quarter-point cut will do nothing for growth. Third and most importantly, such a tiny rate cut, if it happens, will simply underline the ECB’s refusal to follow the U.S. Federal Reserve, the Bank of Japan, the Bank of England and the Swiss National Bank in expanding the money supply or taking other “unconventional” measures that could potentially have a much greater financial impact than any marginal fiddling with interest rates. So much, then, for the silly idea in Europe that “bad news is good news” because economic weakness will force the ECB to cut rates.

Italian politics is, as ever, more interesting and convoluted. The apparent winners from this week’s events were the strongly pro-euro President Napolitano and his new center-left prime minister, Enrico Letta. In fact, they were the losers. The real winner was Silvio Berlusconi, the nemesis of Napolitano and other responsible Italian politicians and a totemic hate figure for German Chancellor Angela Merkel, along with most other respectable European leaders.

To understand this counterintuitive conclusion, which is widely shared by the financiers and business leaders I met in Italy this week as the election drama unfolded, let us begin with what most investors and responsible politicians across Europe interpreted as this week’s good news. Napolitano’s re-election, denounced by comedian Beppe Grillo’s populist Five Star movement as an “elite coup d’etat,” has allowed the aging president to appoint a politician from the center-left Democratic Party (PD), which secured the largest share of votes in last February’s election, to head a pro-euro technocratic administration likely to be modeled on the outgoing government of Mario Monti. Thus, Italy will now have a functioning democratic government, and one that will stick to most of the Monti policies approved by Brussels and Berlin. Moreover, this government is likely to be stable for at least the next six months, since all the established parties have agreed that a new electoral law must be prepared before the next election to prevent a repeat of the present chaos and to try to block Grillo’s advance.

This means that the direst possibilities suggested by Monti’s humiliating defeat last February and the unexpected gains by Grillo and Berlusconi have been eliminated, or at least postponed. There will be no serious effort to reverse Italian fiscal austerity policies before the next election and certainly no more threats to break up the euro of the kind voiced by Grillo and Berlusconi in February’s election campaign. Hence the euphoria in financial markets and the sighs of relief in Brussels and Berlin.

Now for the bad news. While Letta, the new prime minister, is formally a member of the PD, the machinations that led to his appointment and last weekend’s re-election of Napolitano have essentially destroyed this center-left party. This has left Berlusconi’s center-right People of Liberty (PDL) as the only organized political force in Italy capable of holding off Grillo’s anarchic insurgency. Moreover, by orchestrating Letta’s sudden emergence as prime minister, Berlusconi has cut off the political oxygen for a potentially much more popular young center-left leader, Matteo Renzi, the mayor of Florence, who might have had a chance of reviving the PD. And best of all from Berlusconi’s standpoint, the new Letta government will not enjoy its own parliamentary majority and will therefore be subject to instant dismissal if it takes any action that conflicts with Berlusconi’s personal interests or political strategy.

What all this means is that Berlusconi should not only be able to keep the judicial immunities he enjoys, and which are widely seen as a key motivation for his entire involvement in politics, but also that he will ensure that his party benefits from revisions in electoral laws. Better still, by pulling strings in the background but not joining the government, Berlusconi will avoid being tainted by the economic hardships Italy continues to suffer. By the end of the year, he should be able to blame the center-left, the euro-technocrats and Germany for Italy’s problems even more effectively than he did at the last election and to present himself as a national savior from the chaos threatened by Grillo’s anarchic Five Star Movement, which by then may be Italy’s only effective left-of-center party.

So what European financial markets have been celebrating this week is the astonishing re-emergence of Silvio Berlusconi as the dominant figure in Italian politics ‑ and therefore as the ultimate arbiter of whether Italy will abide by the economic conditions laid down by Berlin and Brussels or possibly trigger a breakup of the euro. If Berlusconi had been openly elected as Italy’s president or prime minister, investors would surely have been less euphoric.

PHOTO: Italy’s former Prime Minister Silvio Berlusconi arrives to speak to reporters after consultations with Italy’s President Giorgio Napolitano (unseen) at the Quirinal Palace in Rome April 23, 2013. REUTERS/Tony Gentile

Editor’s note: This column initially misspelled Enrico Letta’s name in some usages; it has been updated with the correct spelling throughout.

Comments
9 comments so far | RSS Comments RSS

Hmm… where is the author’s optimism?

You can walk, ride a bicycle, or take a cab, and you can do it alone or with others – It wouldn’t matter much as long as you’re going the wrong way.

The same can be said about the euro zone.

Posted by reality-again | Report as abusive
 

The italian name is Letta not Letto ( bed in italian). Italians has the same question. Without a stable governament and the winner is PDL. How is it possible the btp/bund spread is weakening and Europeans indexes are rising with red economic numbers ?

Posted by Randaph | Report as abusive
 

I know practically nothing of how the parties that comprise Italy’s government are positioned and what the effect of that positioning is likely to be in the near term.

I appreciate the clarity provided this article’s author.

Posted by breezinthru | Report as abusive
 

Excellent article but I hope you are wrong and Letta will do such a good job that Berlusconi won’t be able to blame him for anything. I felt a lot of relief when he “emerged”. There also some big unknowns – how the 5 star movement will vote for instance – and as you say Renzi is only “potentially” much more popular than Letta

Posted by NickSted | Report as abusive
 

Mr Koletsky I never thought I would read such an insightful and relevant article from you, after past readings.
I firmly apologise and you are raised up in my estimation; I suspect that the EU, the present and past Italian Governments and the Italian Mafia have more in common than we think!

Posted by dajd60 | Report as abusive
 

The miniscule change of interest rate is as inconsequential as Italian politics which have always been hopeless. If there really is euphoria in the markets, it certainly has nothing to do with Europe.

Posted by pbgd | Report as abusive
 

when you hear london and/or anglo-saxon journalists tut-tutting over eurozone matters then

(a) it’s time to sell the dollar

(b) it’s time to sell the dollar and pound sterling

(c) it’s time to learn french or italian, analyse the market for yourself and avoid churnalism from the city of london

Posted by scythe | Report as abusive
 

Thanks again. Who knows who is “right” (the optimists or the pessimists), but one must consider these possibilities if one is to evaluate risk correctly.

Posted by matthewslyman | Report as abusive
 

“The real winner was Silvio Berlusconi”
No, Mr. Berlusconi lost 8 million votes.
“a pro-euro technocratic administration likely to be modeled on the outgoing government of Mario Monti.”
No, this is a political gaovernment headed by both secretaries of the two leading parties.
“one that will stick to most of the Monti policies approved by Brussels and Berlin”
No, in his speech at the lower house Letta said that of austerity alone the country will die, we will stop Monti’s estate tax immediatley, etc.
“Monti’s humiliating defeat”
No, he expanded UDC 5% to 10%, what do you expect from a politician who starts running 6 weeks before the election ?
“the established parties have agreed that a new electoral law must be prepared before the next election”
Sure, did so already a year and a half ago, to no avail
“Matteo Renzi, the mayor of Florence, who might have had a chance of reviving the PD.”
Don’t get me started

Posted by hansrudolf | Report as abusive
 

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