Photo: AFP/Filippo Monteforte
Photo: AFP/Filippo Monteforte

The sharp narrowing of the Bund-BTPS spread and the outperformance of the Italian equity market (+1.5%, banks up more) today may be a relief response to Draghi’s relative dovishness. It did coincide, though, with an apparent collapse of the four-party agreement on proportional representation and the likely postponement of early elections.

Mediobanca has a contrarian view worth examining. It’s very different from what I’ve been thinking, and for that reason I take it all the more seriously. Head of equities Antonio Guglielmi predicts a prolonged period in which no coalition is stable, leading in 2019 to a Macron solution (perhaps with Mario Draghi as president):

“Recent polls suggest that even the most likely scenario (a PD + Forza Italia coalition) might be short of a solid majority. Any alternative government coalition with Five Star (either with Northern League or with leftist parties) will share the same problem. This means to us either unlikely PD + Five stars solid government or a more likely base case ‘Spanish-like’ scenario in the cards, with elections having to be repeated a few months later or the new ‘minority government’ being destined to be short-lived…Whatever happens in 2018, we think it will just be a short-term solution to bridge to 2019 when Italy will be ready to welcome its own ‘Italian Macron’, i.e. Mario Draghi. A proportional system requiring a large coalition government seems perfectly tailor-made for such an end game, in our view. And if the road to get there may be a bit bumpy in 2018, it will still be market-friendly, as the less Rome is able to decide and drive, the more Brussels will go on autopilot. The long electoral campaign starts this weekend with nearly 10m voters participating to the local elections.”

The operative idea is that Brussels will take a bigger role in Italy as the political parties flounder. This, according to Guglielmi, involves the following elements:

1) The EC proceeds with its “safe bond” collateralized debt obligation scheme, which will allow Italian banks to divest themselves of their own government debt and replace it with safer European debt–suppressing the positive feedback loop between the banks and state debt.

2) The EC in turn will require the Italians to sign Creditor Participation Clauses for existing debt to remove the option of redenomination. Debt issued in the past couple of years already contains such clauses.

These two measures “end up tightening even more the Euro straitjacket for Italy, making it even more costly and difficult to consider any exit temptations from Rome.”

The EC Commission will also look the other way at an Italian corporate tax cut. Mediobanca has been advancing a scheme too complicated to detail here. Presumably the EC would give Italy some flexibility on bank bailouts.

The premise of this story is that a Franco-German combination would become a magnet for Italy to follow France to economic reforms. For some reason the German media is starting to enthuse about Macron. Die Welt’s lead story today argued that France might provide a second locomotive of European growth after Germany’s recovery peaks.

There are lots of reasons to be skeptical of this story, but it can’t be dismissed out of hand.