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Italian government fears wrath of markets

August 5, 2010

By Guy Dinmore in Rome

Published: August 5 2010 17:23 | Last updated: August 5 2010 17:23

Italy’s centre-right government sent strong signals to international markets on Thursday that the current political crisis, which carries the chance of early elections, would not derail its commitment to containing soaring debts and reducing the budget deficit.

But with the spectre of Greece’s debt crisis ever present, the risk of debt mar­kets reacting badly to uncertainty over the fate of Silvio Berlusconi’s coalition is set to become a big factor in the tough choices confronting Italy’s politicians.

Markets have taken events calmly so far, even after a vote in parliament on Wednesday confirmed that the prime minister no longer commands a majority, following the defection of rebels from his party.

Paolo Bonaiuti, a government spokesman, confirmed the possibility of early elections. But he also stressed that the budget deficit was on track to fall from the current 5 per cent to 4.6 per cent by the end of this year.

“The political crisis, if there is one, will not hurt Italy’s public accounts,” Giulio Tremonti, the finance minister, said after the vote. He excluded the need for additional cuts this year following approval last month of his €25bn ($33bn, £21bn) austerity package.

Mr Berlusconi faces two main choices after the summer break. Either he attempts to resolve differences with Gianfranco Fini, speaker of parliament and former ally, or he asks Giorgio Napolitano, the president, to dissolve parliament and call elections, should legislation become stalled.

Political sources say Mr Napolitano would rather seek a caretaker government led by technocrats, perhaps including Mario Draghi, the central bank governor. A market crisis could give the president sufficient reason to overcome Mr Berlusconi’s objections.

Analysts admit they are as confused as Italy’s politicians appear to be over how events will unfold.

Marco Annunziata, chief economist at UniCredit, said overall market sentiment had improved . “If the government falls, markets would fall and spreads [on Italian debt] would widen,” he commented. “But I think it would be temporary and moderate and markets would revive.”

Mr Annunziata said Italy’s fiscal position relative to most of Europe was “robust”, alth­ough government debt is forecast to hit 119 per cent of GDP this year from 115 per cent in 2009 – a level second only to Greece’s in Europe.

Mr Berlusconi’s instincts are to boost spending in an election campaign, but Mr Annunziata said it would be a “dangerous gamble” that voters would see through.

Others are not so sure. “If elections were to be called there would be great pressure on Tremonti to increase expenditure, especially for state funds aimed at the south,” commented Stefano Manzocchi, Luiss University professor of international economics.

“The south is where the real battle would be,” he said, noting it is the stronghold of Mr Fini’s “rebels”.

Some hope that, at 85, the president will try to crown his career by thwarting Mr Berluconi’s intention to go back to the voters.

“If I had a magic wand I would choose technocrats and clean the house. The cleanest MP has rabies, the cleanest senator has the plague,” said Marco Elser, head of Advicorp bank. Nonetheless, he believes Italy will exit this crisis like others before.

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