Will The February Election Undermine Italy's Political Stability?

To say Italy is facing significant challenges is an understatement. In the short term, the upcoming elections scheduled for Feb. 23/24 could have a destabilizing impact on Italy and the euro zone. The risks are that either intense public pressure from the Italian public or a fragmented parliament could force the new government to dilute, halt or even roll back a number of key reform and austerity measures.

In the longer term, the challenges relate to Italy’s dire economic situation. Despite the actions undertaken to pull Italy back from the brink of a financial crisis, its economy is still mired in a deep recession, and struggling under the weight of high private sector borrowing costs, an uncompetitive work force and aging population. The real estate sector is also looking increasingly vulnerable. With prospects for a recovery looking very uncertain, a potential backlash against austerity and reforms would put Italy in an even more precarious position.

On November 2011, Prime Minister Monti, an un-elected technocrat, was brought in to accomplish what Italy’s politicians had not been able to do: pull the country back from the brink of a financial crisis and get it back on the path towards long-term growth. On one level at least, Mr. Monti exceeded expectations. He pushed through an austerity budget and managed to pass some reforms with the grudging support of Italy’s two main parties.

These measures - combined with the pledge by the European Central Bank to purchase sovereign bonds on a massive scale under certain conditions - restored the market’s faith in Italy. During Monti’s time in power, government bond yields fell quite substantially. This earned him strong praise from European Union (EU) political leaders and business elites.

Despite Monti’s success in calming the bond markets, Italy is still in dire shape. The economy is mired in a deep recession, unemployment has increased significantly, especially for young people, and the private sector is weighed down by high borrowing costs and an uncompetitive work force. Further, Italy is burdened by the costs of having one of the world’s most rapidly aging societies and a large public debt. All of these challenges are made all the more daunting because Italy’s economy has been one of the developed world’s worst performers over the last decade.

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