Economies Holding Italian Bonds Are Hit, And The European Central Bank May Sell

Italy held a referendum on constitutional reform on December 4. After the referendum, it failed to pass the constitutional reform, which is another case of the rise of anti globalization trend and populism. The goal of constitutional reform is to weaken the power of the Senate and indirectly enhance the decision-making power of the government. Since the constitutional reform has not been passed, Renzi will resign as Italian Prime Minister, and the populist party "Five Star Movement" supporting the withdrawal from Europe may come to power. The risk of Italy's withdrawal from Europe has increased, the euro area is facing the threat of disintegration, and the market uncertainty concerns euro It weakened against the US dollar. The proportion of Italian government bonds in GDP has exceeded 130%, and the economy holding Italian bonds has been hit, which has a negative impact on France and other EU countries that are about to hold elections. However, the market had expected this before, and the European Central Bank may respond.

There are still differences among the advocates of constitutional reform on the specific reform content, while the opposition has been strongly advocating voting against it.

　　 Italy The political situation may be in chaos, populism will rise, and the risk of euro disintegration will increase. Italian Prime Minister Renzi is likely to fulfill his resignation promise. Italy will face the formation of a temporary government or early elections, which will bring uncertainty regardless of the outcome. The government's reform measures may not be sustainable, and the populist party "Five Star Movement" has a high voice in public opinion surveys, which may lead to the possibility of coming to power. The "Five Star Movement" is a party founded by Italian comedian Pip Grillo in 2009 to support the division of Europe. It has a strong view of "Euroscepticism". The party advocates breaking away from the EU, attracting a large number of people who are dissatisfied with social reality and distrust the government. Once they come to power, they may follow the example of Britain in choosing to withdraw from the European Union. This will have a negative impact on France, Germany and other euro zone countries whose governments will change in 2017, and the euro zone may face the risk of disintegration.

The banking crisis in Italy may intensify. The debt crisis of Italian banks was an important reason for Renzi to propose a referendum on constitutional reform. The size of Italian banking industry ranks fourth in the euro area, but the non-performing asset ratio remains high, as high as 17%. Italy had previously tried to issue treasury bonds to raise funds and restructure the debts of Italian banks, but the European Union's single banking regulatory system was not approved. In order to support its balance sheet, Siena, Italy's third largest commercial bank, plans to raise 5 billion euros in public funds next week. The failure of the referendum will make financing more difficult. Since 2016, the stock market value of Italian banks has shrunk by more than half, and the bank debt crisis has become more serious. The failure of the referendum means that the rescue plan for the banking crisis will be postponed. 45% of Italian bank debt is from ordinary Italians. The banking crisis may worsen, and more Italians need to bear the risk of asset loss.

The Italian economy is under pressure in the short term. The referendum failed, and Italy faces early elections or the formation of an interim government. The political turmoil has hindered the growth of Italian economy. The weak economy makes it more difficult for Italy to repay the non-performing loans of the banking industry. The banking crisis is difficult to solve, which makes the Italian economy continue to be mired. The possibility of populist parties coming to power has made the Italian economy less optimistic, and savers are more inclined not to deposit money in Italian banks, making economic expectations self fulfilling and Italy's exit from the euro zone more likely. This is not conducive to the solution of Italy's economic problems.

Impact on financial market: bad euro, good dollar, but European Central Bank Possible countermeasures. The referendum failed, which was bad for the euro, good for the dollar, and good for safe haven assets. The euro depreciated against the dollar, and the interest rate gap between Italy and Germany widened. The euro's exchange rate against the dollar fell 5.3 percent from its high in early November (1.1145) to 1.0558 at 7:00 a.m. on December 5

(1) After the failure of the referendum, the political situation of Italy is facing turbulence. The market's policy towards Italy, including the subsequent performance of the euro area, has brought uncertainty concerns and increased risk premiums. The euro will further weaken against the dollar, while the dollar will be passively stronger.

(2) Italian bond yields will rise. Italian government bonds will continue to be sold off and yields will rise. Driven by the demand for risk aversion, German government bonds may be popular, and the interest margin between German and Italian government bonds will further expand.

(3) As the failure of the referendum met the market expectations, the market had already responded in the early stage. However, considering the checks and balances of the Italian House of Representatives and Senate, the European Central Bank may be ready to rescue Italy in the event of economic fluctuations, and the market may gradually adjust expectations, or may refer to the financial market response model after the Brexit referendum.

The impact may spread to the euro area. The failure of the referendum and the possibility of populist parties coming to power have increased the probability of Italy's exit from the euro zone, which may lead to the dissolution of the euro zone. Unlike Britain's withdrawal from Europe, Italy has joined the European common currency and is a member of the euro area. If Italy withdraws from Europe, the euro circulating in Italy may be converted into the price of Italy and the value of the new currency, and the independent currency will depreciate rapidly against the euro, which will increase the risk of the dissolution of the euro zone. People's confidence in the euro as a common currency will decline, and they are unwilling to make long-term, cross-border investments denominated in the euro, which will exacerbate economic friction.

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