In line with Italy’s history of short duration governments, after 14 months in office, the Five Star Movement (M5S) and Lega coalition is on the verge of collapse. This heightens uncertainty as snap elections might be held during the 2020 budget session in the autumn, the credit rating agency DBRS said in its sovereign report on Italy.
While DBRS expects a solution to be found, should new government formation be protracted, or the absence of a working majority prevent the 2020 Budget bill from being passed, the pre-legislated VAT increases will not be de-activated, as the 2020 Budget bill must be approved by December 31, 2019.
Going into 2020 with the provisional budget means VAT rate increases that could weigh on private consumption, when risks to economic growth are already tilted to the downside.
Last week, M5S’s opposition to the high-speed train link between Italy and France, triggered Deputy Prime Minister Matteo Salvini, the leader of Lega, to declare that a working legislative majority no longer exits. Simultaneously, persistent frictions over the degree of autonomy of some regions in the north of Italy and on the introduction of a minimum salary, generated further discord between the governing parties.
By bringing forward the no-confidence vote, Lega aims to avoid the parliamentary vote on the constitutional deal to reduce the number of MPs, to be held in Septembe. If passed, this would imply a new electoral law to redefine constituencies to elect fewer MPs, delaying the chance for early elections.
Lega’s decision was reinforced by its current strong lead in the polls with around 37% of expected votes. In a coalition with the right-wing “Fratelli d’Italia” party at around 7% and potentially also with Forza Italia at around 6.7%, this government formation could have a majority in both houses.
Prime Minister Giuseppe Conte is expected to go to the Upper House of Parliament in the coming days for a no-confidence vote brought forward by Lega. If this is successful or if he himself recognises in the meantime that there is no longer a working majority, he will resign.
Discussions to assess an alternative majority by heads of delegations and speakers of the Houses will follow. If these discussions prove unsuccessful, the President of the Republic, Sergio Mattarella, will dissolve both Houses of Parliament, maybe by August 24.
Elections are expected to be held some 60-70 days from the parliament’s dissolution. This means at the end of October or beginning of November, in the middle of the presentation to the European Commission of Draft Budget Plan 2020.
Should this government collapse DBRS foresees two near-term scenarios:
(1) Snap elections by end October/beginning of November, delivering a centre-right Lega-led government. Policies to include a personal income tax cut, potential partial cancellation of the Citizenship Income, partial deactivation of the VAT rate increase for 2020 and proposals for an ambitious infrastructure investment plan. (Probability 60%.)
(2) A caretaker government supported by the M5S, a large share of MPs from the Democratic Party and other small parties, with the aim of achieving deactivation of the VAT rate increase, equivalent to 1.3% of GDP in 2020. No flat tax and the possible cancellation of the early-retirement option scheme “quota 100”. This government could also pass the bill to reduce MPs. (Probability 40%.)
The first scenario of a Lega-led centre-right government could have improved quality of policy with a more coherent and pro-business agenda that might be more supportive for GDP growth. The second scenario could likely result in a temporary government before elections will be held possibly in spring 2020.
In DBRS’s view, looking ahead, fiscal challenges are likely to remain. With a Lega-led centre-right government, Eurosceptic rhetoric against the EU may resurface and a key topic could be expenditures for public investment along with the personal income tax cut.
“Although uncertainty remains elevated at this stage, DBRS continues to expect that EU frameworks and financial market discipline will mitigate risks of a prolonged deterioration in Italy’s fiscal position,” said Carlo Capuano, Vice President, DBRS Global Sovereign Ratings.
