The Italian referendum result could be the beginning of the end for the eurozone

Italy was going to be in trouble again sooner or later. It was merely a matter of time, and the timing was never going to be good. Europe’s leaders should have taken evasive action months ago

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The Independent Online

Usually, the outcome of a referendum in Italy on constitutional reform or the result of an election for the figurehead post of the Federal President of the Austrian Republic would be greeted with a degree of indifference in the rest of Europe. As we know all too well, 2016 is different.

The referendum in Italy should be about helping Italy towards a more stable and effective reforming style of government. Instead it has morphed into another broad test of public sentiment towards the political establishment, both national and European. More than that, they threaten the financial stability of Italy, mired in a banking crisis that may yet overwhelm the resources of the eurozone to deal with it.

In Austria, a rerun of an annulled presidential election sees a near neo-Nazi challenging for a symbolically important victory, once again in an act of defiance by the voters towards their rulers. They have nothing else in common, but then again they don’t need to in order to deliver another crisis. These elections take place on Sunday, and already the markets are showing signs of distinct nervousness about the outcome. After Brexit and with no one ruling out the possibility of a Marine Le Pen presidency in France, after elections in April, the future of the European Union has never looked dicier.

The immediate threat is to the Italian – and European – financial system. Greece and Cyprus were small enough to absorb. Italy isn’t. With some €4 trillion in assets, the Italian banks are not only “too big to fail” in the famous phrase, but also may prove “too big to save”. Italy is, after all, the third largest economy in the eurozone after Germany and France, and its public sector one of the most indebted (125 per cent of GDP, compared to, say the peak of 90 per cent that the UK is headed for, or 176 per cent in Greece).

The Italians plainly do not have the wherewithal to save their banks, and the solvent members of the eurozone – for which read Germany, Finland and the Netherlands – may have neither the means nor the political willpower to accept the burden. If the crisis spirals into a domino-like series of full-on bank collapses, this would see many millions of Italian savers losing a significant proportion of their personal wealth, and Italian companies a similar proportion of their financial assets.

As in previous eurozone crises, the contagion from Italy could easily affect the other banks on Europe and around the world. Given that the Italian banks have traditionally taken it upon themselves to purchase the sizeable bond issuance of the Italian treasury, the Italian state itself might find itself unable to fund its activities. Schoolteachers and road sweepers would go unpaid. There would be a deep recession, at best.

Resolving the Italian banks, and Rome’s finances, is really the unfinished business of past eurozone crises, when long-term tough choices about making the single currency system function through closer fiscal and political arrangements (in effect a permanent subsidy from Germany to its southern neighbours) were ducked. The consequences of that failure of economic understanding and political courage can hardly be overstated.

Italy was going to be in trouble again sooner or later. It was merely a matter of time, and the timing was never going to be good. Europe’s leaders should have taken evasive action months ago. The European Central Bank and the German government should have committed to stand behind Italy. Now it is too late.

In that context the victory of the far right in Austria should be a sideshow; but, if it comes to pass, it would add to the sense of despair and of a European union, and political establishment, that is facing its biggest rebellion since the Second World War. It may even be that Brexit will be overtaken by the effective abolition of the European Union as we have come to know it in the next year or two. If the voters repudiate it – what future can it have?

If these were like the happier, quieter, calmer times of the first few decades of its existence, the officials in Brussels would be spending much of their time pondering how best to mark the 60th birthday of the original European Economic Communities, founded with the signing of the Treaty of Rome between what was then “The Six”, West Germany, France, the Netherlands, Belgium, Luxembourg and Italy itself on 25 March 1957. That was a time of optimism, the embarkation point for a dream. The political classes across the continent will be looking to the nightmare in Rome with rather more trepidation now.

It is galling that today at least four of those founding members are poised to pass a vote of no confidence in the project (there are also elections in Holland and Germany in 2017). At this rate, the European Union will have months rather than years ahead of it.