Hardened Populist politics in Italy and the USA

Posted on May 30th, 2018

Italian leaders have set on a course to clash with the EU that will be hard to turn back from.  A more prolonged crisis appears likely.  Trump is pursuing his hard-line on trade; announcing plans to move ahead with tariffs on Chinese imports and restrictions on investments and trade in the high tech sector.  It wasn’t so long ago that global investor confidence was buoyed by solid synchronized global growth. And yields were rising on firming commodity prices, tightening labour markets, fiscal expansion, rate rises in the US and some other economies, and anticipation that the ECB would end QE in September and begin hikes in 2019.  Fears over populist policy trends were receding.  They are back with a vengeance. Populist policies that threaten regional and global cooperation are driving up risk aversion. 


Italian leaders set course for prolonged crisis

Last week I thought we might see risk aversion in Italy calm as the new coalition of the Five Star Movement and Lega formed a government.  I thought the new leadership might test but not, at least initially, flout EU fiscal rules.  However, by scuttling the ship over its choice of a controversial economic minister, it is hard to see how risk appetite in Italy can recover any time soon.

The new leaders are flexing their power in a way that appears almost to force themselves into a clash with the EU.  A new election is likely to be held in coming months.  Lega and M5S have challenged the Italian President’s power to veto its ministers if they present an anti-EU or anti-Euro-membership stance.

The Lega/M5S leaders may claim they do not want to leave the Eurozone, but by demanding their economic minister, it appears they want to implement policies, debt-financed fiscal spending, that have virtually no chance of being accepted by core EU members.

It is a stance on demanding the capacity to implement policies without EU interference.  In an election campaign, they have set up the EU to be their straw-man to attack.  Any claims that they want to stay in the Euro will sound insincere.  They appear likely to win a new election with an increased majority.  Once they do form government, they will answer to the people if they then turn moderate and accept EU rules in return for its financial aid and support from the ECB.

Their fiscal platform –  including rolling back pension reform;  a universal income to support the poor; broad income, company and VAT tax cuts; and a range of social spending initiatives –  are arguably the most fiscally irresponsible, likely to cause a blowout in long-term budget spending in Italy; unacceptable to core EU leaders.

Italy’s coalition: the main policy pledges; 18-May – FT.com

The market is again forced to contemplate a prolonged crisis in Italy, the Eurozone’s third-largest economy.  Whether this is an existential threat for the Euro or not, economic and political chaos in Italy would have broader implications for the region’s economy and financial markets.

As such, there is now much greater potential downside for the EUR and European assets.


Trump trade threat may hurt Asia EM

Asian EM markets have been more immune to political risk in Italy, Turkey and some other hot spots.  It might take some solace from lower oil prices and lower US yields in recent days.  The Turkish central bank has asserted more control over monetary policy and has stabilised the TRL.

However, fears of a trade and broader political dispute between the US and China are threatening to undermine Asian EM in what is now a more nervous global investor environment.

The US Administration released a statement on Tuesday saying that it is moving ahead with actions proposed in March; including:

  1. “investment restrictions” and “enhanced export control” in “industrially significant technology”;
  2. WTO action related to Intellectual Property Rights;
  3. a 25% tariff on $50bn of Chinese imports, “including those related to the “Made in China 2025” program.” “The final list of covered imports will be announced by June 15, 2018, and tariffs will be imposed on those imports shortly thereafter.”

Statement on Steps to Protect Domestic Technology and Intellectual Property from China’s Discriminatory and Burdensome Trade Practices; 29 May – WhiteHouse.gov

The statement suggests that these plans are set to be implemented regardless of ongoing trade negotiations.  They are linked to policies in China to support its High Tech industries that are unlikely to be dismantled any time soon, if at all.

The agenda on trade may reflect broader tensions brewing between the super-powers as China flexes its muscles in the South China Sea and seeks broader global influence.


Populist politics threatens Global Markets

It seems not so long ago that investors and policymakers were confident in a more sustained and synchronised global economic recovery.  Global bond yields were rising supported by rising commodity prices, tightening labour markets, fiscal expansion, a steady pace of rate hikes in the US, and some other central banks, and expectations that the ECB would end QE in September and rate raise rates by mid-2019.

Investors may be wondering how such a positive outlook could dissipate so quickly.  Many may be wondering if we are getting too caught up in risk factors, and the underlying trends in the global economy should eventually reassert their influence and restore investor confidence.

It might be argued that political leaders have been emboldened to pursue their risky agendas by the stronger economic background.  If faced with an investor backlash, they may pull back.  However, we are witnessing hardened political populist agendas in the US and Italy; the same that pushed Britain into Brexit.  The basis for global and regional cooperation appears much weaker than for some time.  The tail on the probability distribution to the left is starting to look much fatter.