The day was already shaping up to be a big one for Italy. On Monday evening, its national soccer team was due to play mighty Spain in the Euro 2016 championship (Italy won 2-0). But the markets and the Italian government decided to upstage the beloved Azzurri. As shares in beleaguered Italian banks opened sharply lower earlier in the day, several news outlets reported that a possible €40-billion-plus capital injection of the sector was in the offing.
Here are five takeaways on the potential bailout:
1. Big gamble by Matteo Renzi to save Italy’s troubled lenders
The Italian prime minister has seen an opening to finally recapitalize one of Europe’s most ailing banking sectors without running afoul of Brussels and is seizing it. The catalyst/excuse is the market turmoil caused by Brexit, but the real reason is that many large and small banks in Italy need capital and neither the market nor a recently formed government-sponsored Atlante fund have enough firepower to provide it. The question will be whether Brussels will approve Renzi’s cunning plan or whether it will block it as state aid (see below).
2. Brexit has got very little to do it with it
Italian politicians and officials are muttering darkly about “hedge funds” targeting their banks in the aftermath of Brexit. While hedge funds are no doubt among the investors selling Italian bank stocks, this is far from a speculative attack. There are good reasons for being bearish on Italian banks, namely their €360 billion in non-performing loans, their oversized appetite for Italian government bonds, and shaky corporate governance. Add Italy’s slow-growing economy and you can see how the toxic mix has little to do with the British referendum. Incidentally, the direct exposure of Italian banks to Britain is very small.
3. Brussels will ask for a hefty prize in return
The EU rules are predictably opaque. In theory, direct government bailouts of banks are forbidden by state-aid rules. But they can be allowed in exceptional circumstances when the interests of consumers and taxpayers are at stake. The loophole is fairly large, but Brussels insiders believe the Commission will extract a high price if and when it approves this deal. What that might be is unclear, although Italy is a crucial player on issues such as immigration, a pan-European bank deposit insurance scheme and the general post-Brexit EU order. DG COMP declined to comment on Monday.
4. Others may jump on the Brexit bailout bandwagon
That has to be Brussels’ biggest fear: If it allows the Italians to help their banks, everyone else would want to do the same either now or whenever they get in trouble. Banks in Greece, Spain, Portugal but also Germany and France come to mind. Brussels and the Italians would have to work out a deal that both reassures the market but is tough enough on Italy to prevent a free-for-all of state bailouts of banks.
5. What if even this fails?
That’s Renzi’s worst nightmare. Having tried the private route (asking banks to get their act together and raise capital), the public-private route (the Atlante fund) and now the fully public route, Rome will find itself out of ammunition should it sanction a bailout that fails to dispel the markets’ fears. Indeed, some investors were already saying on Monday that the mooted €40 billion “is not enough.”
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