Clarity is here in Italian coalition talks. And the markets hate what they see. So does Brussels.
Five-year Italian debt blew out over 1%, CDS spreads have moved over 20 basis points in a week. The markets are trying to scare these outsiders now in charge in Italy to soften their stances on reform and maintain a status quo which is destroying a great country and culture.
The League and Five Star Movement leaked demands for $250 billion in debt relief from the ECB. There was also a demand for developing a mechanism for countries to leave the euro, according to a, now discredited, report from Reuters.
The final proposal doesn’t have any of this inflammatory language, but don’t think the leak wasn’t part of their negotiating strategy or part of where they are ultimately going to push things.
Because the rest of the proposal is already hostile enough to Brussels (see below). And with ECB President Mario Draghi now signaling the need to consolidate European sovereign debt under its umbrella, it isn’t necessary at the moment.
Here’s Martin Armstrong’s take:
So everyone else understands what this is about, the ECB President Mario Draghi has come out and proposed interlocking the euro countries to create a “stronger” and “new vehicle” as a “crisis instrument” to save Europe. He is arguing that this should prevent countries from drifting apart in the event of severe economic shocks. Draghi has said it provides “an extra layer of stabilization” which is a code phrase for the coming bond crash. [emphasis mine]
That tells me that Draghi understands how bad things truly are and that Italian leadership knows they have the upper hand in debt negotiations.
They are prepared to push Brussels hard to get what they want. And well they should. League leader Matteo Salvini understands how ruinous the euro as administered by Germany has been for Italy and most of Europe.
So, to him, if the price for Italy to stay in the EU is to force the northern countries to accept debt consolidation and write-down then so be it.
If they won’t agree to that, then Italy’s new leadership is prepared to back to the people and say, “We tried. Screw them. Let’s walk.”
All of this says to me they sand-bagged the press and the political establishment to get to this point.
The coalition proposal is a mishmash of right and left policy prescriptions that will drive the IMF and Brussels mad. But, these two very different parties have to come to some agreement if they are to wrest control of Rome from the insanity of the status quo in Europe, which serves no one’s ends except the globalists which stand behind the public faces of the EU – Juncker, Merkel, Tusk, Macron, etc.
The League is a former secessionist party that served the northern regions of Veneto and Lombardy with talks of fiscal responsibility and far lower taxes. The while Five Star Movement has grown out of the hollowing out of Southern Italy’s economy and social fabric from political rot emanating from both Rome and Brussels.
One is calling for lower taxes and regulation, the other wants generous pensions and universal income. These are not easy differences to overcome. But they have, to no one’s satisfaction. That, however, is the price for such an eclectic mix of policy positions.
That said, they are clearly together on the two most important issues facing Italy’s future, immigration and Italy’s place within the EU.
Both parties want to put Italy first. And the legislative program now proposed looks to be in that vein, while not looking (at first glance) too radical. From Zerohedge’s writeup this morning:
Seeks 15% and 20% tax rates for companies and people
Seeks guaranteed minimum income for poorer Italians
Universal basic income of €780 per person per month, funded in part through EU
Seeks end to Russia sanctions
No mention of a referendum on membership of either the EU or the euro
Agreement to meet the goals of the Maastricht Treaty
No plans to ask the ECB to cancel debt
Calls for airline Alitalia to be relaunched
Seeks to scrap Fornero pension reform
Flat tax to become a dual rate with deductions
Seeks a strong contribution to EU immigration policy
Plan calls for redefining of lender Monte dei Paschi di Siena’s mission
The highlighted ones are the most important, while the markets focus on the tax changes and universal income.
Forget those. If Italy can get the EU to lift Russian sanctions, take immigration policy away from Angela Merkel and provide a blueprint for dealing with insolvent Italian banks those would be titanic wins.
These are the issues at the heart of the EU’s foundational problems – its lack of banking cohesion and anti-democratic bureaucracy.
The Soft Sell To Italeave
So, while all of this looks like they’ve caved on the most extreme positions, in effect, they have not. Italy’s budget is getting crushed by the cost of Merkel’s Migrants. Both parties obviously feel that growth can return to the Italian economy within the euro by radically lowering taxes to reprice Italian labor lower. This would put it at an advantage relative to Germany while remaining within the euro.
Then issuing a new parallel currency, the Mini-BOT, to circulate domestically to lessen the need for euros within the domestic economy and free up Italy’s budget issues with respect to its debt servicing needs.
What I’ll say about that is with yields spiking, the Mini-BOT better get off the ground soon because Italy’s debt servicing is extremely low thanks to the ECB’s negative interest rate policy (NIRP). And once the dollar begins rising here the decisions for debt relief and consolidation may be out of any one group’s hands.
Merkel’s Out of Time
The problem now is time. Donald Trump’s pressure policy on Iran and Russia is creating the kind of uncertainty no one can forecast. It is forcing a decision on European leadership to come together and declare opposition to Washington’s diktats and forge an independent identity while at the same time look to truly end the cultural divisions and distrusts which have led to this moment thanks to a lack of fiscal unanimity.
It is clear to me Italy’s new leadership understands this with the sum and substance of these policy points. It believes it can re-align Italy’s domestic policies in Italy’s favor while forcing Brussels to face the responsibility of leading Europe forward in a way which is far more equitable than in years past.
Perhaps that’s why Angela Merkel visited Russian President Vladimir Putin for a second time in two weeks after only sending representatives for the past four years. They weren’t just talking about the Iran deal.
No that meeting was all about getting Germany out from under Trump’s thumb while not incurring his wrath. Putin’s long-game of diplomatic patience was the right path from the beginning. It’s always bet to let your opponent bluff and bluster, beat their chests and make demands they can’t enforce.
Eventually those watching realize it is all just hot air. And as time passes the cost of resistance to the bully falls and the benefits of joining a new group rise. For Germany it is energy. Russian Gas and Iranian oil are necessary for Germany to maintain its competitiveness and Trump is undermining both of these with his lack of diplomacy.
Merkel’s refusal of his proposed tariff concessions to ditch the Nordstream 2 pipeline and buy more expensive LNG from Cheniere Energy was more important than people think. There’s no reason for Merkel to believe that U.S. policy under Trump or any future president won’t do an about face. Meanwhile, pipelines are practically forever.
And Merkel is savvy enough to put her ego aside over having been outmaneuvered by Putin over Ukraine and hold the line on Nordstream 2.
The Big Reversal
Merkel has an out here. And Italy just handed it to her. I’m not sure she’s smart enough to see it.
The ECB wants debt consolidation and greater control. For the EU to survive this is necessary. Germans and the rest of the northern countries don’t want to be seen bailing out the “Club Med” countries. That would be interpreted as yet another submission to Washington and New York. Merkel cannot go through horrific debt relief talks like she did with Greece in 2015. It would destroy what’s left of her political capital. If she stands tall against Trump over Iran, however, she gains a lot. The uncertainty over how Trump will react sends the euro down, pressuring the ECB to finally move on dealing with the debt.
Europeans want normalized relations with Russia and open trade, especially German industry. There are tens of billions in investments in Russia and Crimea waiting for the sanctions to end to travel to Russia, especially with such a weak Ruble, thanks to Trump’s moronic sanctions.
Only Poland and the Baltics don’t. But, they don’t matter. It only takes one finance minister to vote against extending Russian sanctions to end them. If Merkel stands up to the U.S. on Iran, it makes it easier for Italy to force Germany to stop bullying everyone into maintaining them.
Italy drops the bombshell to end the Russian sanctions in July. Merkel “reluctantly” goes along with this. Nordstream 2 worries go away. The EU and Russia form a united front against more U.S. belligerence in Ukraine.
During Monte dei Paschi debt restructuring talks Merkel and Draghi introduce new mechanisms for debt consolidation as a model for the future.
Do I think this is the most likely scenario? No. But it is one that could come to pass if Merkel reads the shifting political winds properly. If she begins thinking in Germany’s best long-term interests then some version of this is exactly what she’ll do.
And she’ll have the hated euroskeptics from Italy to thank for saving her legacy and Europe from further political and economic marginalization.