A Line is a Dot that Went for a Walk: How Italy’s Referendum Could Cause the EU’s Next Crisis

December 1, 2016

On Sunday, Italians will vote in what may prove to be their most consequential constitutional referendum in the last seven decades. On the table is nothing less than a fundamental sea change in Italian politics, although a rejection could project the EU headlong into its next crisis. Italian voters will essentially decide what type of government will lead them through an impending financial crisis and tough negotiations with EU lenders. If voters reject the reform, the government is in danger of collapse, opening the door for populist parties advocating for Italy to leave the Eurozone.

In a high-stakes political gamble that opponents have labeled as nothing less than a power grab, Prime Minister Matteo Renzi and his center-left Democratic Party are proposing a constitutional reform package to shrink the size of the Italian Senate and strip it of significant powers. If successful, both the prime minister and Italy’s lower house of parliament stand to gain significant political muscle.

Renzi and his party have spent the last two years ardently gathering support from their coalition members in both houses for a reform package they knew would likely have to be put to a referendum. In the new global paradigm where frustrated voters have now passed Brexit and elected populist Donald Trump on a wave of nationalistic sentiment, Italian Euroskeptics suddenly see this Sunday’s referendum as an opening. Thus, what began as an earnest attempt to reform Italy’s government has taken on far greater geopolitical significance for the EU.

At the heart of the problem is Renzi’s pledge to resign if his proposed reform loses. Understanding the potential consequences of his resignation, EU leaders and even President Obama have urged him to renege on that promise and finish the legislative term. Renzi may still resign in the hope that his party can lead a transition government by quickly appointing another cabinet figure as prime minister, as many in his Democratic Party view this as the only way to minimize the damage and remain viable for the next round of national elections in 2018.

Italy’s three main opposition parties favor exiting the Eurozone, and if Renzi’s reform package is defeated at referendum, they will seize on the populist momentum to dismantle Renzi’s government and move to early elections. In other words, on 5 December pro-EU Europeans could awaken to a scenario where Italy fails to reform and the referendum’s defeat collapses the government, paving the way for the opposition to take power and, potentially, Itexit, Spexit, and Grexit.

Further adding to the anxiety is an impending banking crisis should the reform package fail and Italy slip into political crisis, as political uncertainty will likely frighten investors, stalling badly needed recapitalization and putting up to eight major Italian banks at risk. For those who think David Cameron’s Brexit referendum was a reckless gamble, stay tuned. Matteo Renzi’s good intentions may send the EU headlong into its next giant crisis.