Wry & Dry

Upcoming European mayhem 1: Italy

Italy: upcoming European mayhem

When W&D ponders matters Italian, he thinks of spaghetti.

Not only for the pasta, one of the many conveyors of amazing flavours of meat, fish and vegetables.  But also for the traffic.  And the complexity of the political economy.

Last week W&D wrote of the upcoming constitutional-change referendum.  And how its passage would greatly assist the country eliminate its spaghetti of bureaucracy.  Really, it's a make-or-break referendum.  To W&D's mind, if it fails, Italy will survive, but be in a long and slow spiral into mediocrity.

But Italy's problem is not just a political crisis.  It's a spaghetti of a political crisis, an economic crisis, a debt crisis and a banking crisis.  It's a crisis of crises.

Economically: Italy has been a Fiat-in-reverse gear since 2007.   Since then its GDP has fallen by 10%.  Its public debt is now 135% of GDP, clearly not helped by the inevitable mathematical consequence of GDP falling and debt rising.  That debt figure is the highest in any eurozone country, with the exception of... Greece.

Banking-wise: Italy's banks are the epitome of the FIAT acronym: Fix It Again, Tony.  And again.  

Consider this.  Global bank stocks' share prices have surged everywhere since The Trumpster was elected (on the back of the possibility of less bank regulation).  Except in Italy. Aside from the close-to-death Monte dei Paschi di Siena (MdP; see more later), the shares of which rose in price, the shares of the other large banks have fallen sharply.

The recent losses compound what’s been a miserable year for shareholders of Italy’s banking stocks. The best performing stock is the investment bank Mediobanca, which is down a mere 24% for 2016.  Over 2016, to date...Italian banksAs W&D has noted previously, Italian banks are having trouble paying interest on their bonds (subordinated debt).  Normally, subordinated debt is the sole preserve of sophisticated investors.  But not in Italy.   Almost half of Italian banks’ subordinated bonds are owned by retail investors, a dark legacy of banks using their customers for cheap funding.  Put simply, miss-selling subordinated debt to unsuspecting depositors is a fiendish but very effective way to recapitalise the banking system.  This is because the subordinated debt might be converted into shares under certain circumstances; such as the bank not being able to pay the interest on the debt.  Or if there is a 'debt restructuring', such as being proposed for MdP.  The debt holders might be 'bailed-in'. 

This is Plan N for MdP, where N is a large number.  Some of those retail investors in MdP, many of whom are traditional voters of Prime Minister Matteo Renzi’s centre-left party, are on the verge of being bailed-in.  It’s Renzi’s worst nightmare, at the worst possible time: the bail-in is scheduled to take place on Nov 28, just 6 days before referendum day.

Spaghetti, indeed.