What to Expect From Italy’s New Government

After a two-month deadlock, Italy finally has a government. New Prime Minister Enrico Letta and his cabinet—a mix of familiar and new faces from the center-left and center-right, as well as a few technocrats—were sworn in Sunday and confirmed by both houses of Parliament Monday and Tuesday.

Letta is an accidental European leader, much like French President FranÇois Hollande. Both are career politicians whose parties never intended them to be head of government, but who ended up in the hot seat after the more likely candidates stumbled. Before winning his Democratic Party’s leadership, Letta was deputy leader (under Pier Luigi Bersani) and served as a cabinet member in several previous governments. Most recently, he was Secretary to the Italian Council of Ministers under Romano Prodi from 2006 through 2008—ironically, he was preceded and succeeded by his uncle, Gianni Letta, who held the post in both of Silvio Berlusconi’s cabinets.

The new Prime Minister is pro-euro and known for his mediation skills—unlike Bersani, he’s not strongly disliked by various party factions. The desire to build a wide (if shaky) consensus was apparent in his cabinet picks, which seemingly aim to appeal to voters who supported the anti-establishment Five Star Movement and appease Berlusconi, who still wields considerable power. Younger, lesser known politicians likely appeal to the Five Star Movement’s base, while technocratic Finance Minister Fabrizio Saccomanni—the Bank of Italy’s deputy governor—should help maintain the credibility Mario Monti’s government had with capital markets.

The new government’s sheer existence likely eases short-term Italian jitters, but I can’t see it lasting very long. In many ways, it’s similar to Monti’s government, which collapsed in December—lots of technocrats and quite unstable. Berlusconi may not be in the cabinet, but as leader of the center-right, he can pull the plug whenever it suits his purpose. His center-right coalition leads current polls, giving him considerable leverage in pushing his agenda. Adding to the instability, there remains quite a bit of resentment toward Berlusconi among the center-left. Letta doesn’t have a ton of political capital, and some in his party cite his uncle’s position in Berlusconi’s party as evidence the younger Letta will ultimately be a Berlusconi puppet. He’ll have to walk a fine line to maintain Berlusconi’s support while fending off opposition within his own party. Letta’s first speech to Parliament demonstrated the balance he’s attempting to strike. He announced plans to cancel the June installment of Monti’s widely despised property tax and July’s VAT increase (a demand from Berlusconi’s contingent) and plans to expand the nation’s welfare program (an obvious nod to his own party).

Letta’s precarious situation likely reduces the likelihood of the new coalition passing meaningful reforms. Officially, the government’s goals are spurring economic growth, reforming labor markets, battling tax evasion and reforming the energy, insurance, gas, pharmaceutical and postal sectors. However, I’d expect most of the future proposals to focus on election reforms allowing for more stable governments moving forward or rolling back additional unpopular austerity measures. Incremental measures like these have a decent chance at passing—both sides are focused on reducing the negative impact of austerity on Italy’s economy. But meaningful and much-needed labor and industry-specific reforms are likely too polarizing to make it through this unstable government. That’s unfortunate, as meaningful reforms likely would provide a nice tailwind to Italian equities, but it shouldn’t much impact global markets—there are plenty of positive fundamentals to drive stocks higher over the period ahead.