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Italian bond yields reversed a big chunk of their losses and stocks followed suit yesterday on the back of our scoop that 20 of Silvio Berlusconi’s senators had told him they could form a breakaway group if he pushed Italy into political chaos.
Whether they would switch their support to Prime Minister Enrico Letta and give him a workable majority in the Senate (he has a firm grip on the lower house) remains to be seen. That could buy several months of relative stability without the threat of Berlusconi mucking things up at any moment.
But we’re not anywhere near that yet and even then, elections would be likely in the spring. Those same senators did not speak out at a PDL meeting on Monday where Berlusconi said the party must push for early elections.
The next crunch point comes on Wednesday when Letta faces a confidence vote in parliament. He could woo independents and centrists under his predecessor Mario Monti in the Senate but that still wouldn’t be enough for a majority. He really needs to peel off some of Berlusconi’s supporters.
With markets already alarmed at the prospect of another self-inflicted political wound – the U.S. government budget shutdown – Italian assets could take a hammering today with investors finally waking up to the potential chaos looming.
The big euro zone development over the weekend was the re-election of ageing Italian President Giorgio Napolitano for a second term. The presumption is that to put himself through this again he must have got pretty serious expressions of intent from the warring political parties that they will strive for some form of grand coalition. That may have been made easier by the resignation of centre-left leader Bersani who was in danger of splitting his own caucus.
If that comes to pass it should push back the timing of fresh elections until next year at least, a welcome turn for markets which feared a new poll could result in an even more fractured outcome and put more power in the hands of the anti-establishment Five Star movement. All that means we should see a significant rally in Italian assets today. That should also benefit other peripheral euro zone bonds. Safe haven German Bund futures have already dipped at the open, Italian bond futures have leapt almost a full point and European stock futures are pointing upwards.