Europe has once again become a source of concern for investors this year, with Brexit and Italy’s new populist government the latest causes of volatility amid fears they could threaten the European Union.
But investors need to put those concerns around Italy and Brexit in context.
In 2016, a non-compulsory referendum of the British people voted in favour of leaving the EU. Britain is now in the process of exiting, but they are yet to finalise the nature of the exit.
They’ve spent the last two years debating how they want to leave and what sort of post-Brexit model they want.
The latest plan is to have a free market in the trading of goods between Britain and Europe – but not a free market for people, services and capital.
The Europeans don’t like that idea because they regard all four freedoms as sacrosanct. It’s unlikely they will let the current British Government have all of what they want – the free trade of goods – but not the other things.
Brexit is creating tension and uncertainty within Europe. And the clock is ticking. Britain must resolve the issue by early next year or it may be locked out of the EU altogether, with a so-called ‘no deal’ Brexit.
However, I don’t believe Brexit will affect the rest of the Eurozone. Europeans voted in a number of elections last year, and while they weren’t referendums on the EU or membership of the Euro, overall they elected parties that were in favour of staying in both. Subsequently I don’t forsee any major threats to the Euro.
But one country where populists did perform well was Italy; the populist left-leaning Five Star Movement (5SM) and populist far-right Northern League (NL) were the big winners in the March elections, but this was possibly because both parties backed away from their previous anti-Euro policies.
Both parties are now in a coalition government running Italy and they campaigned on undertaking fiscal stimulus and relaxing the EU rules around budget deficits. That would create tension with the rest of Europe and has been a source of concern for investors.
Yet Italy’s Deputy Prime Minister, Matteo Salvini, recently said his country will, in fact, honour those EU rules.
So maybe the risks around that are starting to settle down a little bit.
Italy is the country that investors should keep an eye on when it comes to the Eurozone because while a majority of its population support membership - at around 60% - it’s less than the 75% or so seen in the rest of the Eurozone countries. However, despite this Italy will likely stay in the Eurozone simply because leaving it will be too hard and involve a sharp fall in the value of a new Italian lira. And more Italians do favour staying rather than leaving.
There could, however, be a bit of volatility triggered by political tension between the EU and the new populist government of Italy.
Ultimately, however, while Britain will probably leave the EU, I believe the more significant (from a financial point of view) Eurozone will stay together. And at the end the of the day I don’t see a major ruction across Europe in terms of threats to economic growth.
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