Weather forecast: Stormy with a chance of elections

While we enjoy the nice summer weather in Europe the last few days have made it clear that we should expect a stormy autumn. Two stormfronts centred in London and Rome are likely to create lots of turmoil and destruction across Europe.

Let’s discuss the developments in the UK and Italy in turn.

UK: A snap election is becoming more likely

Boris Johnson has built a government of mostly hard-line Brexiteers with a few moderate faces to placate the centrist members of his party. However, in recent weeks it has become increasingly clear to me that the moderate forces in the Conservative Party have zero influence on policy anymore. Instead, Boris Johnson, together with his Chief of Staff Dominic Cummings seem to push an agenda that pits the government against Parliament and Brussels. The latest evidence of this manoeuvre are the efforts by foreign minister Dominic Raab to try to blame Brussels and the EU for any hard Brexit because of their reluctance to renegotiate a deal. 

Meanwhile, German magazine Der Spiegel reports, based on interviews with high ranking diplomats, that the UK government simply isn’t interested in any negotiations anymore. Apparently, Johnson’s new Europe Advisor David Frost made it amply clear at his first visit in Brussels that the British government will accept no less than a complete abolition of the Irish backstop. When European diplomats made it clear that this is unacceptable, the blame game started with the UK government now trying to blame a no deal Brexit on the Irish Prime Minister, the EU and everyone else but themselves. For now, there aren’t even any meetings scheduled between the EU and the UK to discuss a Brexit deal.

While financial markets have reacted to these signals with a weaker Sterling, reflecting a higher implied probability of a hard Brexit, I am not sure if this interpretation is the correct one. A hard Brexit still faces many hurdles not least the members of the House of Commons who are vehemently against such an outcome and probably willing to topple the government if they have to. And circumventing Parliament in an effort to force a hard Brexit seems very difficult by now because of the virtual impossibility to prorogue Parliament and an army of lawyers standing ready to appeal to the courts in case the government tries to do that. 

However, what Johnson does at the moment makes political sense if he prepares for a snap election. In the case of a snap election he can position himself as the defender of the will of the people and turn the election campaign into a referendum on hard Brexit vs. no Brexit. Current opinion polls indicate that the Conservative Party together with the Brexit Party could achieve a majority in Parliament if they agree to field candidates strategically in order not to split the votes between the two parties. Meanwhile a similar coordination effort of the opposition parties would be much more difficult since it would require Labour, SNP, Liberal Democrats and several regional parties to agree on a common electoral strategy. While this may have worked in a recent by-election in Wales, it is much harder to pull off in a general election.

In my most recent assessment of the different Brexit scenarios I gave both a hard Brexit and a snap election about the same likelihood of 30% to 40%. Given the posturing of the new government and the recent news flow, I think that the chances for a snap election in autumn (before 31 October 2019) have increased, while the chances of a hard Brexit have declined. To me, a snap election in autumn with a campaign thought over the terms of Brexit seem by now the most likely way out of our current mess.

Italy: The 62nd government since World War II

Meanwhile in Rome, deputy Prime Minister and leader of the Lega, Matteo Salvini, has announced that he can no longer work with his coalition partner the Five Star Movement. This move has been widely expected at least since the European Elections in May when the Lega got twice as many seats as the Five Star Movement. This was the confirmation that Matteo Salvini needed to believe the opinion polls, which indicate that Lega is likely to gain significantly in case of a snap election, while the Five Star Movement is likely to lose half its seats. 

According to the latest Poll of Polls analysis, the Lega can expect to gain 38% of the votes in a general election. Together with the far-right Brothers of Italy (6%) and Silvio Berlusconi’s Forza Italia (7%) it seems likely that a snap election would not only produce the 62nd government in Italy since the end of World War II but also a right-wing coalition government with a majority in both houses of parliament.

Before you start worrying about a possible Italexit, let me state that neither the Lega nor Forza Italia are currently in favour of Italy exiting the EU. This is on the one hand a reaction of the difficulties the UK has in exiting the EU and on the other hand a reflection of the fact that populists need a scapegoat for all the things that go wrong. And what better scapegoat than Brussels.

Instead, it seems likely to me that a snap election in Italy in autumn will produce a right-wing government that will immediately try to go on a spending spree to deliver all their promises of higher spending and tax cuts. This, of course, means that Italy will breach all the deficit limits the EU has put in place to guarantee financial stability. Unhindered by any technocrats, I would expect that unlike last year, the Italian government will not back down in its spending plans and rather risk a penalty by the EU for excessive deficits. 

However, we have to be aware that a right-wing government in Italy would also likely become a fifth member of the Visegrad group of Hungary, Poland, Czech Republic and Slovakia and move Italy’s politics closer to the populist policies of Victor Orbàn et al. As a thank you for getting support from an EU heavyweight, it seems likely that Hungary and Poland will block any draconic punishment of Italy.

Thus, we are left with a situation, where the Italy debt crisis is likely to flare up with a vengeance in October and November. We should expect Italian government bond spreads over German Bunds to widen dramatically and in the worst case, the newly elected President of the ECB, Christine Lagarde, will have to intervene in markets to prevent another debt crisis. Since the Italian and German economies are already suffering from dramatic weakness, it seems likely that these developments could be the death knell for Eurozone growth and push the Eurozone into recession in early 2020. 

Meanwhile, there is always the possibility that Italy’s politicians will come to their senses and back down from the path of destruction they have put the country on. But who am I kidding…

Voting intentions in an Italian general election

Source: Poll of Polls.

Note: PD = Partito Democratico, M5S = Movimento Cinque Stelle, FI = Forza Italia, FdI = Fratelli d’Italia, +E = Più Europa, EV = Europa Verde, LS = La Sinistra, NcI = Noi con l’Italia.