March 24, 2017
The single over-arching lesson from the Varoufakis episode in 2015 is that if you want to leave the euro, you have to be prepared - politically and logistically. Leaving the euro is not a plank in a political platform, something you casually talk about in a panel discussion, or even something you put to a referendum. It’s a bigger deal than Brexit. The sudden departure from a single currency can never be an orderly process, anywhere, under any circumstances.
When we saw this Reuters story by Gavin Jones on Luigi di Maio’s press conference, it struck us that the deputy president of the chamber of deputies, and the man most likely to become Italian prime minister if current electoral trends persist, is setting himself up for a monumental failure. Di Maio is a young man, 30 years old, with no adult experience of past currency crises. The way he envisages euro exit is unbelievably naïve - as an orderly legislative process. He is quoted as saying in a press conference that euro exit was not a top priority for his party. This is a bit like saying that you are still planning to launch all-out nuclear war, except that this is now a second-order priority. He said:
“It’s not true that 5-Star wants to take Italy out of the euro...We want Italians to decide.”
He said a referendum would have to be preceded by a legislative process to prepare the ground. And it might not even do that if the European institutions first come to their senses, as he put it, but without giving details of what that meant. This reads to us as though he wants to open a back door to a decision to remain in the eurozone. But, unfortunately, this is not how it will play out in practice.
Italy’s long term future in the euro is indeed uncertain, and one can easily think of a whole series of scenarios, including exit scenarios. But there is one scenario that we can exclude with 100 per cent confidence, which is a euro exit through referendum.
If Five Star wins, which is possible, it will take between 2 and 5 seconds of the first exit poll for Italian interest rates to shoot up to crisis levels, or above, as investors will then have to price in a non-trivial probability of a default since referendums are inherently unpredictable. The moment he becomes prime minister, he will be dealing with a financial crisis.
We cannot exclude an Italian euro exit as a result of a market panic. Nor can we exclude the scenario of an Italian government pulling out a long-prepared plan to introduce a parallel currency during a long bank-holiday weekend. But we can exclude an orderly process as a result of which Italy changes its constitution, and then allows a referendum on the euro to go ahead. It will never come to that. Events will intrude long before.
One reason why we are so certain of this is that the European Central Bank, which has the ultimately ability to floor any market attacks on the eurozone, will not be willing or able to help a government that is not committed to the euro. It could not trigger the OMT programme to support a non-compliant government.
A more likely political sequence of events is what we call the Huey Long scenario, after a governor of Louisiana who once reportedly told an aide on election night about his intention to break a promise to cut taxes: "Tell them I lied". Di Maio will either have to do a Huey Long, or prepare emergency legislation to leave.
In any case, what is very clear from the interview is that this young man is wholly unprepared. Leaving the euro would be the biggest decision for Italy since signing the Treaty of Rome sixty years ago. You'd better be ready. This is not a number-three item on your to-do-list.
We also have stories on the ECB's exit strategy; on the two battles in the French presidential polls; on the Catalan assembly of elected officials; on Deutsche Bank divesting from Spain; on the first Dutch coalition negotiations; on the effects of a delay in the second Greek review; and on an unlikely coalition for Brexit with no deal.