Italy is set to be the latest country and the first in the G7 to sign up for China’s Belt and Road Initiative (BRI). That seems to upset quite a few folk. There is a lot of geopolitical noise in this story but likely minimal economic benefit. It is more about the geopolitical ramifications and Soft Power than anything else.
Don’t underestimate Soft Power to get things done though, I’m a Fulbrighter so I should know. BUT it won’t bring growth to Italy like some karmic redistribution of Chinese blessings for the PIGS countries in the Year of the Pig.
Full disclosure as well: the Confucius Institute is lessening my son’s school’s budget deficit and sponsoring our trip to China!
The outlook for Italy’s economy doesn’t change much on the back BRI. This non-binding initiative is unlikely to spur actual growth in Italy. Italy needs to address labour rigidities, weak banks on lending strikes and overall governance challenges.
The BRI is also unlikely to move the needle for China. I’m no China expert but that country’s profile is changing significantly. Urbanization, cheap labour, trade surpluses are all things of the past. The Chinese authorities are working overtime to reconcile what is needed to return the country to dynamic growth without sacrificing the political structure and possibly even tightening the reins.
But it does do a lot in the ole’ Soft Power side of the equation. Italy’s own government isn’t 100% behind signing the BRI though that doesn’t differ from any other policy currently. The unnatural alliance of the League and the 5 Star Movement isn’t stable and doesn’t have staying power. This accentuates the weaknesses already in place in Italy. The country is already in conflict with the EU over budgets and reforms and the lack of unity from the government just makes the country more of an outsider in the EU already. It tried to tie its mast to Russia and block decisions new EU sanctions again the country. It also was the only country to block the EU’s recognition of Venezuela’s Juan Guiado. Now it is turning to China.
This serves China well as it is fully satisfies a variety of geopolitical aims and on the cheap side to boot. It takes BRI up a notch from its current variety of frontier and emerging market participants. (Though Italy is closer to EM than its G7 status might denote). It strengthens the wedge between the EU and Italy. Macron was just saying how China is threatening African countries’ sovereignty with bad investments and debt traps on his recent trip to the continent. We won’t delve into the historical irony of that.
It also shows that while the EU may support the US in its efforts to impart its view of how trading relationships should work, Italy isn’t towing the line. The US warned Italy that it was letting in the wolf amongst the sheep with singing up to the BRI. But since no one else is knocking on Italy’s door, the country is definitely going to let Italy in.
And back to the wolf and sheep analogy. Italy is the weak, injured sheep. The EU has tried to do a lot to bring this little lamb back amongst the herd but for a variety of reasons, the Italians didn’t take advantage of fixing the banks which I view as the key point at which then a healthier system can help foster reform in labour markets and in government structures. Italy remains weak and suspectable to the wolf or China depending on your point of view.
Where does this Soft Power conversation turn into market pressure? I have long said you should have sold Italy when the League and 5 Star Movement got together. That was nothing but a bad omen for short term Italy. The BRI doesn’t change this. But if it motivates the EU or the US to actually pay special attention to Italy to get it to fall back in line, it might provide temporary support.
We know the ECB is doing all it can. The latest iteration of the TLTROs are good for Italian banks but will this change when Draghi leaves? Will the Italian government collapse after the May European Parliament elections? What is the cards for Italy after Brexit? The BRI might accelerate or magnify the answers to these questions and that’s what will move markets.
I don’t think 10 YR Italy looks cheap at 2.5 even though it might be slightly wide to historical. I think there is weakness in the short term but a good institutional backstop in the EU so buy when the government collapses and keep adding until they form a government.
File that under I DON’T THINK SERIE A IS PLAYING IN BEIJING ANYTIME SOON
