On December 4th, Italy will vote on a constitutional referendum that could unravel Italy's already fragile banking sector if it fails to pass.
After the UK voted to leave the European Union in June, populist movements throughout the Eurozone have gained popularity. Though no other European countries are set to vote on leaving the EU, the strength of populism threatens the passage of an Italian constitutional referendum set to take place this upcoming Sunday, December 4th. The December referendum, championed by current Prime Minister Matteo Renzi, seeks to greatly reduce the power of the nation’s Senate as well as its regional governments, making the executive branch significantly more powerful. Renzi has staked his position on Prime Minister on the referendum’s outcome, vowing to resign if the referendum fails.
However, Renzi is not the only one who could suffer if the referendum fails. Not one, but eight of Italy’s largest banks “may fail” if Italians vote against the measure, according to senior bankers who spoke to the Financial Times. Many of Italy’s largest banks have been in crisis for quite some time and largely considered to be completely insolvent as Italian banks, overall, hold €360 billion in bad debt yet only have €225 billion of equity. Renzi’s hands have been tied regarding how to address the crisis thanks to new EU banking regulations and has since championed a “free market” solution, which unfortunately has proven near impossible due to the magnitude and prevalence of bad debt among Italian banks.
The only solution available to Italy under the EU’s new rules is a “bail-in.” A “bail-in” is different than a “bail-out” in the sense that the money of bank account holders (i.e. regular people) bear the burden of financially supporting collapsing banks whereas this financial support comes from governments or international institutions such as the IMF in the case of a “bail-out.” If the Italian referendum next week fails, a bail-in will be the only solution available if Renzi is forced to step down. With 80% of all of its “bail-inable” money held by savers and pensioners, a “bail-in” will lead to massive social unrest throughout Italy as a majority of citizens wake up to find their savings and bank accounts drained in order to prop up the nation’s big banks.
As a result, fear has shot through the Italian banking sector, causing Italian bond risk to spike. However, the uncertainty of Italian banks is not a localized phenomenon, European banking stocks have now erased of all their gains following a jump in stock prices after the US presidential election. Investors are also pulling their money out of Italy in record numbers, which is also a bad sign. As the many other European banks are already in crisis, particularly the massive Deutsche bank, Italian banks could be the first domino to fall with potentially global consequences. Though the economic doom and gloom that preceded a successful “Brexit” and a Trump victory never materialized, Italy is already in a massive banking crisis – only one shock to the system, no matter how small, could bring eight or more of its banks crashing down. With polls showing that a “no” vote is the most likely outcome, the next few weeks could ignite a crisis felt throughout the Eurozone and, perhaps, the world.
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