The fate of the Euro, the EU, and the Western banking system could change tomorrow

In just a few hours the Italian people will wake up and go out to vote on what could be a national referendum even greater than the Brexit vote taken back in June.  This is because the outcome of the vote, whether Yea or Nay, could very well determine the futures of not only Italy’s place in the European Union, but also the solvency of Euro currency and of many Western banks.

Italian Prime Minister Matteo Renzi has staked his entire political career on this referendum, and has promised to step down should the vote fail on Dec. 4.  And this move would of course create a tremendous power vacuum in leadership, and open the door for more radical parties such as Beppe Grillo’s Five Star Movement to seize power in the nation’s parliament and Executive branch.

But perhaps just as important to the political chaos that a No vote would entail, is the fact that there would no longer be a backstop for the insolvent Italian banks which Renzi provided when he stood firm calling for a sovereign bail-out over the EU’s demand for customer bail-ins.  And with this backstop removed the potential of a complete collapse of these banks could lead to a derivatives meltdown that would cascade over to multiple too big to fail banks in Germany, France, and eventually the United States.

There’s an old saying: “What’s sauce for the goose is sauce for the gander.” The meaning is obvious — if you insist on something for others, you have to be prepared to hold yourself to the same standard.

A version of that is playing out in Europe today. And right now the strongest signal is not coming from Germany — it’s coming from Italy. Italian banks are in deep financial distress (as were banks in Cyprus and Greece from 2011 to 2015). This involves the Banca Monte dei Paschi di Sienna (BMP), the world’s oldest bank still in operation, founded in 1472.

BMP was the only major bank to fail the European Central Bank’s (ECB) recent stress tests. It was required to raise capital as a result. The efforts to raise capital have been led by JP Morgan and a syndicate including Goldman Sachs and some Chinese banks. JP Morgan won out over a rival plan by veteran Italian banker Corrado Passera.

Monte dei Paschi needs to complete the effort by the end of December. That seems unlikely since Italians are voting on a constitutional referendum which could unseat the government this Sunday, Dec. 4. The government endorses the plan.

If Germany forces Italy to bail-in BMP, then Italy will insist that Germany also bail-in Deutsche Bank when the time comes. Both banks are too-big-to-fail and are failing, but BMP is closer to the brink. It’s the “canary in the coal mine” for Deutsche Bank.

Germany won’t like that, but if they don’t bail-in Deutsche Bank, the European Union will come apart because of acrimony between Italy and Germany.

Compared to this dispute, UK Brexit is a sideshow. Greece is a sideshow of a sideshow. Italy is the real deal. If Germany and Italy can’t cooperate, then there is no European Union.

Markets won’t wait while German and Italian politicians tiptoe around the bail-in question. They will draw their own conclusions and start a run on Deutsche Bank. That will take the stock down another 90% on top of the multiple crashes that have already occurred.

— The Daily Reckoning

Interestingly, and unlike the day before the Brexit vote and U.S. Presidential elections, investors in Europe are not going all in for one side or the other, and in fact many sold off their positions on Friday in anticipation of a potential bloodbath should the referendum vote result in a No.

Markets across Europe were in the red on Friday, as Italy prepares for Sunday’s constitutional referendum, which could determine the future of the eurozone.

The German DAX, British FTSE 100 and French CAC 40 were losing over a percent, as speculators worry about the political turmoil should Italy vote against constitutional changes proposed by Prime Minister Matteo Renzi.
Renzi aims to reduce the country’s legislature and tackle the red tape in lawmaking. He has proposed cutting the number of senators by roughly two-thirds to 100, which will speed up decisions in the parliament. He says the changes are vital to end political gridlock and revive Italy’s stagnant economy.

Opponents, however, say that it will give too much power to prime ministers, and realign the system of checks and balances.

The prime minister pledged to resign if his amendments are rejected.

Italy’s local benchmark stock index has lost almost a quarter of its value in 2016 and is by far the worst performing major market globally.

”I suspect on Monday it will be very difficult to have a definitive opinion on what could be the future government in Italy and the appetite for further reform,” said Franck Dixmier, global head of fixed income at AllianzGI, as quoted by Reuters. His fund shorts Italian bonds.

— Russia Today

The crisis in Italy is just the start of a six month journey that could see one or more EU nations change leadership and decide to pull up stakes in the coalition.  In fact, right now on Dec. 3 Austria is voting for a new President where the leading candidate is from a political party founded by a former Nazi SS officer.

Whatever the outcome of the next few months, it is assured that the West will experience great change that could see most of the traditions forged since 1999 fall apart in this global return towards nationalism.  And while the Brexit event from earlier this year was important, and the election of Donald Trump last month was an incredible blow to globalism, what takes place in Italy tomorrow could be catastrophic to not only the nation itself, but also to the world’s banking systems, markets, and the security of the European Union and its continental currency.


8 thoughts on “The fate of the Euro, the EU, and the Western banking system could change tomorrow

  1. Ken,
    How realistic is this view from Zero Hedge?
    ‘Probably the clearest example in living memory of this effect was the UK economy in the first half of the 1970s, which prompted Pepper’s analysis. From 1970 onwards, the Heath government reflated aggressively by depressing interest rates and increasing fiscal stimulus. The result was a stock market boom that ended in May 1972, gilt yields having bottomed earlier that year. As the economy improved, gilt yields rose further, and equities entered a deep bear market. The Bank of England increased interest rates, while gilt yields rose, equity prices fell, and price inflation increased. Speculation migrated from equity markets into commercial property, when rents and capital values responded to expanding office demand, driven by the artificial economic boom. ‘


    • Hard to see this as a similarity… we have had 8-20 years of interest rate depression by central banks and two housing bubbles now.
      Plus when it was done in the UK it was just before, and just after the world de-coupled from a Gold Standard.
      Frankly with the Debt and interventions I can’t recall anytime in modern history where what we have no is equivalent… especially since there has never been a point (until now) where the entire world was using purely fiat currencies.


      • Great article Ken! Got a short write up ready for when they announce the results in Austria Sunday night!


      • 10-4. I figured someone from the crew would write the follow-up and just wanted to get something out last night to show Rogue Money’s representation for the event.


  2. Renzi lost the bet:
    ‘Italy PM Renzi lost by a huge margin, with the latest estimate somewhere around 59% voting "No" to Renzi’s proposed constitutional referendum.In a speech moments after the results were announced, Renzi confirmed he would hand in his resignation tomorrow, adding he isn’t available to lead a caretaker government in a blow to many sellside forecasters he would do just that’


  3. The EU doesn’t want a bail in from depositors. They want the bond holders and stockholders to take a hit first by converting the bonds to equity. The stockholders take a hit when more shares are added diluting their existing shares. The ECB policies has destroyed the traditional banking model for most EU banks. On top of this when Italy went to the euro they were unable to devalue the currency as needed and had to take on massive amounts of debt. They raised taxes, cut government head counts and salaries and cut benefits. Then you have too low of a savings rate. They simply removed too much capital from the economy with all of this which means businesses suffer and then banks. Deutsche Bank is simply having liquidity problems by entities pulling capital out and flooding into dollar based assets as the euro will eventually collapse. If need be German industrialist will provide capital as needed.


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