Italy: Hung parliament, left without obvious short-run solution to gridlock

The new geometry of the Italian parliament makes the formation of a new government a very complicated exercise for all players. Poor turnout for the centre-right and centre-left parties suggests the Forza Italia-Democratic Party (PD) core will not be able to forge a grand coalition.

The centre-right coalition, the biggest political aggregate in the new parliament might in principle attempt to build a coalition, but under a Northern League leadership, it might find it hard to attract moderates from the centre-left to reach a majority and strike an agreement. The PD's claim that it would rather be in opposition seems to confirm our doubts.

After such a strong showing, the 5SM is a natural candidate to play a key role in the formation of a new government. However, reaching an alliance agreement with mainstream parties could be very complicated, as the 5SM would likely try to enforce strict preconditions. The possibility of the PD becoming the preferred partner, which cannot be ruled out, might depend heavily on whether PD leader Matteo Renzi decides to resign or not.

In searching for an ally, the 5SM might consider teaming up with the Northern League. While a distinct possibility, this remains unlikely, in our view, as its political viability might be limited, with neither electoral base at ease with the idea.

President Sergio Mattarella will obviously have a big role in the process. We believe he will tread very carefully, exploring all possible solutions to the gridlock and keeping the new elections hypothesis as a last resort with the current electoral system.

We believe he will have to confront the fact that the undisputable victory of populist parties in principle adds a potential bias to future economic policies, and to fiscal policy in particular. Both the Northern League and the 5SM have typically been very critical towards European fiscal rules, deemed too rigid and perceived as an unneeded straightjacket. Pushing for a deviation from the current fiscal trajectory when France and Germany are working towards a new European governance might turn out to be a dangerous exercise.

Should all exploratory mandates fail to succeed, a technocratic solution (or national unity government) with a narrow mandate (such as approving a new electoral law) might ultimately emerge as the backstop outcome.