Macro Highlights: eurozone – economic outlook improving, political uncertainty rising

Macro Highlights - 11/29/2016

While the latest data suggest that economic growth in the eurozone is picking up a bit, political uncertainty is settling in as well. Sophie Casanova, one of the Paris-based economists of our Economic Research team, analyses the stakes of Italy’s constitutional referendum scheduled for this Sunday, 4 December.

In the Eurozone, the private sector has been growing at its fastest rate since the start of the year. The Flash Composite Purchasing Managers Index (PMI) for November came in at 54.1, which is well above 50, the threshold between expansion and contraction. Another positive factor is private sector credit, which continues to increase gradually (2.2% in October following 2.1% in September). In October, lending to non-financial corporations grew by 2.1% – its fastest pace since 2009 – while loans to households held steady at 1.8%. These figures support our forecast of 0.4% quarter-on-quarter GDP growth in Q4 2016 (see charts).

Despite these improving economic indicators, a number of upcoming votes will continue to be a significant source of uncertainty in the Eurozone. The next important ballot will be the constitutional referendum in Italy, set to take place on Sunday, 4 December.

Italian voters will decide the fate of the constitutional reform proposed by Prime Minister Matteo Renzi and aimed at overhauling the Senate. It is the most recent step in the broad structural reform plan initiated by Mr Renzi since 2014 for the purpose of modernising and simplifying Italy’s institutional system. One of the main measures that has already been adopted is the elimination of the country’s 110 provinces, leaving the 20 regions as administrative divisions.

The upcoming referendum will ask voters to approve a reduction in the powers and role of the Italian Senate. The number of senators would be reduced from 315 to 100, and rather than being directly elected, they would be chosen from among the country’s mayors and regional councillors. This institutional reform would mark an end to the current bicameral system under which the Senate and the Chamber of Deputies have equal powers, including that of bringing down the government. That system has been blamed for the high level of political instability in Italy in recent years.

This reform per se should not raise any concerns about the possibility of renewed political instability. But two key factors make this vote particularly uncertain. First is Mr Renzi’s personal stake in this referendum. His statement in late 2015 that he would resign if the referendum failed transformed it into a de facto vote of confidence. Although he has changed his mind about resigning, there is no guarantee that he will be able to continue to run the country if the reform is defeated. Pre-referendum surveys give opponents a 7-point lead, although 20-25% of respondents are still undecided. The second factor is the upcoming decision of the Italian Constitutional Court on the constitutionality of the current electoral law, which is called Italicum. The court announced that it would wait until after the 4 December referendum to hand down its decision on the law, which gives an absolute majority of seats in the Chamber of Deputies to the party that wins the election (by getting 40% in the first round or winning the second round). One fear is that, as suggested by voting intentions measured by recent polls, the Five Star Movement could beat Mr Renzi’s party in the legislative elections set for early 2018.

The implications of the upcoming referendum are numerous:

  • A successful referendum would of course be a positive development because it would enhance the country’s political stability in the medium term. In addition, in the shorter term, Mr Renzi could remain the head of the government, and the legislative elections could take place as planned in early 2018.
  • A failed referendum (which surveys seem to indicate, as discussed above) would further weaken Mr Renzi and could lead to his resignation. Yet it is not clear that the Italian president would call early elections, and a technical government could be appointed in 2017.
  • Regardless of the outcome of the referendum, some uncertainty will remain surrounding the Constitutional Court’s decision on whether or not the Italicum electoral law will stand. Even though this law should also bring greater political stability in the medium term, the chances of a populist party winning the legislative elections would increase, and this could further fuel uncertainty in the coming months.



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