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May 9, 2017 | 09:00 GMT

8 mins read

The Next Race for the Eurozone's Future

Former Italian Prime Minister Matteo Renzi
(EMMANUEL DUNAND/AFP/Getty Images)
Forecast Highlights

  • Now that Euroskeptic forces have failed to win general elections in France and the Netherlands, the next challenge for the currency area will come from Italy, where elections will take place in late 2017 or early 2018.
  • The impending vote will raise questions about Italy's financial future, since two of the country's four most popular parties have a Euroskeptic agenda.
  • New electoral legislation, currently in debate, will influence the Italian Euroskeptic parties' chances of attaining power.

In a year of decisive elections, the eurozone has so far weathered the storm. Euroskeptic parties lost the vote in two key countries, France and the Netherlands; the nationalist Alternative for Germany party is expected to fare even worse in Germany's general election in September. But the currency area isn't out of the woods yet. The next serious threat it faces will come from Italy, which is preparing for a general election that could threaten the eurozone's continuity. Given the country's high debt levels, low economic growth, fragile banking sector and strong currents of anti-establishment sentiment, the vote stands to be one of the most consequential — and unpredictable — electoral contests in the European Union.

Italy's political system has endured its share of upheaval over the past six months. Former Prime Minister Matteo Renzi resigned in December after the country's voters rejected his constitutional reform package in a referendum, and Paolo Gentiloni replaced him the following month. Since then, Rome has had to navigate a host of challenges, from financial issues among banks and large companies to pressure from the European Union to reduce Italy's fiscal deficit. The constitutional referendum's failure, meanwhile, aggravated tensions in the ruling center-left Democratic Party, which governs with support from small centrist parties, prompting some of its members to break off and form a new party. To further complicate matters, Renzi has expressed his intention to return to the premiership, and he regained his post as head of the Democratic Party on April 30. Italy has until early 2018 to hold its next general election, but the former prime minister believes that he can guide his party to victory in an early vote.

Laying the Groundwork

Though rumors of snap elections have been swirling in Italy since Renzi resigned, they have yet to bear out. In fact, Italian President Sergio Mattarella has said he won't dissolve the Parliament and authorize an early election unless lawmakers harmonize the disparate electoral laws governing the legislature's two chambers. The Senate and the Chamber of Deputies have equal legislative powers, but their members are appointed by different mechanisms. As a result, different parties can win control of each chamber, complicating the legislative process. The heads of the main political groups in Parliament recently promised Mattarella that they would hold a debate on a new electoral law in late May. But passing the legislation could take weeks, if not months.

The type of system Italy's lawmakers decide to institute will influence the outcome of the next election. Proportional systems, in which a party's representation in Parliament corresponds to the percentage it receives in the national vote, typically produce multi-party coalition governments, like that of the Netherlands. By contrast, majoritarian systems such as that in the United Kingdom — where the winning party in each electoral district takes all the parliamentary seats for that district — tend to produce single-party governments or small coalitions. Legislators will also have to decide whether to grant bonus seats to the winning party and to set the threshold of votes required to enter Parliament.

And coming up with a solution will be easier said than done. Although the Democratic Party has more seats than any other party in both chambers of Parliament, it lacks an absolute majority in either. Renzi and his party, then, will have to work with competing political groups — namely the anti-establishment Five Star Movement, the center-right Forza Italia and the populist Northern League — to pass a new electoral law.

Italian election polls

As the four leading groups vie for dominance, each will push for the kind of reform it believes will best serve its interests. Renzi and the Five Star Movement, currently polling neck and neck with the Democratic Party, have both advocated instituting a majoritarian system that would grant bonus seats to the winning party. After all, they each hope to win enough of the vote to secure a single-party government. Smaller parties, on the other hand, prefer proportional systems and espouse allotting bonus seats to the winning coalition — rather than to a single party — to encourage larger groups to work with them ahead of the vote. A dissident faction in the Democratic Party also favors this idea since it would hurt the Five Star Movement, which has so far refused to form alliances with other parties, including the Northern League. (The two parties may well decide to join forces after the next vote, should the Five Star Movement perform strongly.)

Scheduling the Vote

Should Italian lawmakers fail to introduce a new electoral law by March 2018, the deadline for dissolving Parliament, the country can still hold elections under the existing laws. Doing so, however, could put different parties in control of each chamber of the legislature, thereby complicating Italy's policymaking process.

Even if Italy's lawmakers settle on a new electoral law, though, the government will likely postpone the vote until the end of the year at the earliest. The Italian Constitution stipulates that the government must wait at least 45 days after dissolving Parliament to hold a new vote. Beyond the legal requirements, the government has a few other scheduling concerns to keep in mind. Italy, for example, is set to host the G-7 summit May 26-27, an obligation that will likely keep the current administration from resigning in the meantime. Italian politicians will probably also try to avoid holding the election in July or August when many voters will be on vacation. In mid-October, the government will have to present its 2018 budget to Parliament. Considering the pressure the EU Commission has put on Italy to cut spending and increase taxes, the country's major political parties may opt to delay the vote and let Gentiloni take the fall for introducing austerity measures. The Five Star Movement, in fact, recently announced that it would choose a candidate for prime minister in September, which suggests that it does not expect elections to happen before the last quarter of the year.

A Fateful Election

Regardless of when the vote occurs, Italy's next general election will pose yet another challenge for the eurozone. Of the four most popular Italian parties, only the Northern League has demanded a referendum on Italy's membership in the eurozone. The Five Star Movement has so far made no mention of a referendum in its electoral platform, though its leader, Beppe Grillo, has called for the country to pull out of the eurozone. Forza Italia, meanwhile, has blamed the euro for Italy's sluggish economic growth and suggested reintroducing the lira as a parallel currency. The Democratic Party is the only leading political group in Italy that explicitly supports the European Union, and even so, Renzi has often criticized Brussels' push for austerity and attacked EU officials.

Depending on the kind of electoral system that Parliament establishes, Italy's Euroskeptic parties may have a hard time attaining power. The Five Star Movement, for instance, would have trouble forming a government under a proportional system, since it has eschewed alliances with other parties and has poor ties with the Northern League. If, however, Parliament instituted a majoritarian system, the Five Star Movement would have a shot at governing Italy on its own — a prospect that would generate unease in Europe's financial markets. An Italian exit from the eurozone, after all, would probably precipitate the collapse of the entire currency area.

Of course, a victory for a Euroskeptic party wouldn't guarantee the eurozone's demise. Organizing a referendum on Italy's participation in the currency area would require constitutional reform — a lengthy and convoluted process — and even then, voters may decide to stay in the eurozone. But it would probably be enough to put households, companies, and investors in Italy and abroad on edge about the currency union's future. The increased uncertainty, in turn, could lead to a run on banks in Southern European countries or higher yields on their debts.

Whether it happens sooner or later, the upcoming election in Italy will be a crucial test for the eurozone. The country has the second-largest debt-to-gross domestic product ratio in the currency area and the highest debt level in absolute terms. Its economy has barely grown over the past decade, and its unemployment rate has stayed high, yet its ossified political institutions keep much-needed economic reforms at bay. More important, surveys suggest that support for the euro is especially low among Italian voters, relative to those elsewhere on the Continent. As a result, even the country's most pro-European politicians are critical of the bloc.

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