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Italy's President Napolitano's one condition for accepting a second term, set forth last week, has been met - Italian political leaders agreed over the weekend to a "grand coalition" of technocrats and politicians from the left and right, and formed a new government. A two-month political deadlock following February's indecisive election has thus come to an end. Mr. Napolitano, Italy's ultimate power broker, must be feeling vindicated; "our country and Europe could not wait any longer", he told reporters.
One of the government's first acts today was a bond auction, and given that Italy's public sector debt is the developed world's second largest (accounting for 126% of GDP), market reaction to the auction was critically important. The government easily passed this first market test. Ten-year borrowing costs fell at today's auction, to a few basis points below 4%, compared with 4.66% at last month's auction, and a high at the end of 2011 which exceeded 7%, a rate which forced the resignation of Silvio Berlusconi's government and ushered in an emergency technocrat government. Market confidence was also evident in the stock market, with the Italian FTSE MIB stock index closing up over 2% today.
The new Italian Prime Minister is 46-year-old Enrico Letta, the deputy leader of the leftist PD party, and widely regarded as a conciliator. Thus, he has appointed Angelino Alfano, the 42-year-old politician who runs Silvio Berlusconi's People of Freedom Party, as deputy premier and interior minister.
But it seems that today's market optimism principally reflects the appointment of two technocrats to the cabinet: Bank of Italy's Deputy Chief, Fabrizio Saccomanni, who is close to European Central Bank President Mario Draghi, is the new economy minister, and Enrico Giovannini, the head of statistical agency Istat, will head up the labor ministry. Mr. Saccomanni has already thrown down the gauntlet on austerity, telling the Italian newspaper La Repubblica that in a new "pact" with banks and businesses, he will "restructure the state budget" to support companies and low-earners, while cutting unproductive public spending, thus allowing some tax reductions. He also predicted that Italy's borrowing costs could "plummet".
Mr. Letta will present the broad vision of his new government ahead of parliament's two confidence votes scheduled for later today in the Chamber and tomorrow in the Senate. Support for the formation of the new government is widely expected. He then travels to Brussels, to re-iterate his pro-European views, but with a clear message that the unrelenting focus on austerity to rein in European public budget deficits and debt must shift to pro-growth measures. The Germans will be watching and listening.