By Carlo Capuano, Nichola James and Fergus McCormick – DBRS
• DBRS views the rejection of the referendum as credit negative, as it is likely to impact government stability and the pace of structural reforms.
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On December 4, Italian voters rejected the constitutional revision in a referendum that saw the “No” vote prevail with 59.1%, versus 40.9% of voters who voted “Yes”, with a turnout of 65.5%. DBRS views this outcome as credit negative, as it impacts government stability and has the potential to slow the pace of structural reforms. In addition, it may reduce the ability of the government to facilitate the necessary restructuring and recapitalisation of Italian banks. Adding to the uncertainty is the timing of Prime Minister Matteo Renzi’s tendering of his resignation to the President of the Republic. This likely resignation opens up the potential for a caretaker government or snap elections.
Institutional framework likely to remain in its current form
The rationale for the proposed constitutional changes included: providing more government stability; limiting legal disputes between the regions and the central government; reducing the cost of politics by lowering the number of politicians; and streamlining the legislative process.
The “No” vote in the referendum suggests that the institutional framework will remain in its current form. Furthermore, given the weak political consensus, along with the infrequency of referendums, the institutional framework could remain in its current form for some time. The country will continue to have a political structure that was adopted following World War II, with both chambers of parliament sharing the same powers and the same right to participate in government confidence votes. Along with a large number of members of parliament, this is a distinctive characteristic to Italy.
Under the current electoral system, composed of two different laws: the “Italicum” for the Lower House, and the “Consultellum” for the Upper House, new elections are likely to result in a hung parliament. While the Lower House is likely to provide a more stable majority, the Senate, elected through a pure proportional system, is less likely to generate a cohesive majority. Thus, an elected government could struggle to secure the support of the Senate in the future. This situation has emerged as the “Italicum” that came into force in July 2016 had its effectiveness linked to the constitutional reform, specifically to the intended elimination of the right of the Senate to participate in the confidence vote.
Government uncertainty following Renzi’s pending resignation
After the first exit polls, the Prime Minister conceded defeat and is expected to tender his resignation to the President of the Republic once the budget law is approved, possibly by the end of this week. In personalising the referendum, the main opposition parties campaigned against him; whereas if the content and scope of the constitutional reform had been emphasised since the beginning, it is possible that support for the referendum may have been greater.
Renzi’s resignation could pave the way for a caretaker government, which if supported in parliament would reduce political uncertainty. The new government’s main priority is expected to be the amendment of the electoral law applied to the Lower House, the “Italicum”.
In light of the rejection of the constitutional reform, the second-round system in the Lower House is expected to be eliminated, switching to a proportional system. This possibility could increase if the Constitutional Court rules that the “Italicum” is unconstitutional, in early 2017. This would reduce the risk of having a hung parliament as an outcome of the next elections, if the main parties are able to reach an agreement.
At the same time, the new government is expected to oversee the restructuring and recapitalisation of the banks. Conversely, if a political consensus for a caretaker government cannot be achieved, snap elections could be held in early 2017. In this case, without first amending the “Italicum”, current opinion polls point to a win for the Eurosceptic Five Star Movement, against the Democratic Party, in a possible second-round vote in the Lower House. This would likely increase uncertainty over the direction of government policies.
Lower expectation of structural reforms
DBRS considers that the constitutional reform was likely to provide more political stability. The opposition case against the constitutional reform was that the proposed changes could give too much power to the government, without checks and balances from the Senate. Nevertheless, Italy has had more than 60 different governments over the last 70 years.
If approved, the constitutional reform could have improved growth prospects through greater government stability. Growth is particularly important to Italy, given its high government debt of 132.3% of GDP (end-2015). Over the last decade, Italy’s economic growth has been lower than the Euro area average. Italy’s real GDP remains around 8% below its pre-crisis peak in Q3 2016. While the current government introduced a comprehensive structural reform agenda – despite the complicated institutional framework – the effects on the economy and on business competitiveness are expected to emerge only slowly. The constitutional changes could have provided a catalyst for additional reform that could have been beneficial for potential growth. This in turn could have helped Italian banks by strengthening their operating environment.
Carlo Capuano is Assistant Vice President – Global Sovereign Ratings, DBRS; Nichola James is Co-Head of Sovereign Ratings – Global Sovereign Ratings; Fergus McCormick is Chief Economist – Co-Head of Sovereign Ratings, Global Sovereign Ratings.
