Ameriprise Financial : Italy Votes 'No' while Austria Votes 'No' to Populism

The strength of the western populist movement that resulted in Brexit and the election of Donald Trump was tested on Sunday in Europe with elections in Italy and Austria. The results show that Italy embraced the populist message by giving a resounding 'No' to constitutional reforms, while Austria rejected it and took a sharp turn to the political right. Although neither vote was a direct referendum on membership in the European Union, as was the case with Brexit, either vote could have led to the formation of new governments, new elections and ultimately similar referenda. Ahead of the votes, investor anxiety climbed, as the euro weakened, and bond yields rose.

In Italy, voters rejected (by a margin of 6 to 4) changes to the constitution that would have restructured the legislature, and in the view of its proponents, make the passage of needed structural reform more likely. The current system was unworkable, they argued, having resulted in 65 governments since WWII, a weakened banking system and a sclerotic economy that was impervious to change. Opponents argued that the new structure would concentrate too much power in the ruling party and make the government less responsive to the public, not more.
The referendum became a vote of confidence in the Prime Minister, Matteo Renzi, who threatened to resign if the measure failed. Acknowledging defeat, he has done just that. Now an attempt will be made to form a new coalition government. A 'No' vote is seen as empowering the populist Five Star Movement, which believes Italy has not been well served by its Eurozone membership and would like to see a national referendum on its ongoing membership. The Five Star Movement also previously won mayoral elections in Rome and Turin. Heading into Sunday's vote, the opposition was seen as having a slight lead, but with a large number of undecideds.

In midday trading in Europe on Monday, Italian equities were just slightly lower while stocks elsewhere in Europe were higher, the euro was slightly higher, and Italian bond yields were sharply higher. U.S. equity futures were trading higher.

Austria Rejects a Populist Leader

Also on Sunday, Austrians went to the polls to elect a new president, a mostly ceremonial position that can have a significant influence on new elections and the party makeup of the government. The choice was between the far-right Freedom party candidate Norbert Hofer, and the more leftish Green party member, Alexander Van der Bellen, running as an independent. Mr. Hofer positioned himself as the anti-EU, populist 'Austria first' choice, arguing for tighter controls on immigration and national economic renewal. Van der Bellen, in contrast, is pro-EU.

Sunday's election was a re-run of a previous contest between these same two candidates held back in May, won by Mr. Van der Bellen by just 30,000 votes out of a total of 4.6 million cast. That result was invalidated by the court in response to vote counting irregularities. The latest polls had indicated that the race this time was too close to call, but the result this time was the same as in May, as Austrians rejected the populist message and elected Mr. Van der Bellen.

Political Risk in the EU Mounts

The immediate focus in the Eurozone now shifts to the Italian banking sector, which needs recapitalization. But how interested private investors will be in participating is now further in doubt with the political situation in a state of suspension. Longer-term, the implications of the vote for the future of the Eurozone itself will be debated.

Political risk in Europe does not end with these elections. Sunday's votes were just the latest in a series of upcoming elections throughout the Eurozone that will determine its future. France, Germany and the Netherlands will each hold national elections next year and voters will be facing a similar choice between pro-EU parties and their populist opposition.

Nor is political risk the only thing on the minds of Eurozone investors this week. The European Central Bank (ECB) meets on Thursday amid expectations that it will extend its QE program by an additional six months beyond its scheduled expiration in March, at the current pace of 80 billion euros a month, with the intention of then beginning to taper its program. Year-over-year economic growth in the Eurozone has expanded at a 1.6 percent pace in the second and third quarters, while core consumer prices have stabilized at 0.8 percent. Headline inflation, which had been negative as recently as May, has climbed to 0.6 percent in November. The impact of the 'No' vote in Italy will have on the ECB's thinking remains to be seen.

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