Monti’s Labor Law Marks Return of Political Risk: Euro Credit

Italy's Prime Minister Mario Monti
Mario Monti, Italy's prime minister. Photographer: Kamoshida Koichi/Bloomberg

Investors are facing the return of political risk in Italy as Prime Minister Mario Monti’s plan to make it easier to fire workers divides his ruling coalition.

Unless Italy is “ready for what we think is a good job, we may not seek to continue,” Monti said on March 26, prompting concern the government won’t last until elections due by May 2013. He made the comments after leaders of the Democratic Party, which has backed his unelected government, said they would seek to reverse the change in Parliament.

The rate on Italy’s benchmark 10-year bond has risen 35 basis points to 5.19 percent since March 20 when Monti unveiled his reform of firing rules, prompting Italy’s biggest union to call a general strike. The yield difference with comparable German bunds was at 337.5 basis points today, up from a seven-month low of 278 basis points the day before the announcement.

The labor-market overhaul is the fourth major reform passed by the government and the most divisive as Monti seeks to revamp an economy that has grown less than the European Union’s average for more than a decade. Easing firing rules while the country is in a recession with unemployment at a decade-high 9.2 percent was a tough sell to unions and the pro-labor Democratic Party, one of the three main groups that back Monti in the legislature.

Market ‘Sensitive’

“The labor market reforms are critical for Italy, and it is equally no surprise that Monti is having a rather more difficult time in getting agreement on these,” said Marc Ostwald, a fixed-income strategist at Monument Securities Ltd. in London. “He has already had to make a lot of concessions and the Italian bond market does appear to be rather sensitive to any negative related news.”

The labor overhaul comes after Monti passed a 20 billion-euro ($26.5 billion) austerity plan to eliminate the deficit, a package to boost competition and a set of measures to cut red tape. All that and the European Central Bank’s unlimited loans to the region’s lenders helped restore confidence in Italy’s ability to cut a debt of almost 2 trillion euros.

Since Monti came to power in November, Italy’s 10-year bond yields have fallen more than 2 percentage points after two months crisscrossing the 7 percent threshold that led Greece, Ireland and Portugal to seek rescues. Italian bonds are the best performers in the euro region this year, returning 11 percent.

Debt Sales

Those advances have produced a plunge in the nation’s borrowing costs.

Today the Rome-based Treasury auctioned 8 billion euros of bonds and floating-rate securities. It sold 3.25 billion euros of 10-year bonds to yield 5.24 percent, the lowest since August 2011 and down from 5.5 percent on Feb. 28. Investors bid 1.65 times the amount offered, up from 1.40 times last month.

The Treasury also sold 2.5 billion euros of five-year bonds and 2.26 billion euros of a floating 2017 bond to yield 4.18 percent and 4.6 percent respectively.

“Despite the good auction, Italian BTPs seem to be under pressure today,” Annalisa Piazza, a fixed-income analyst at Newedge Group in London, said in an e-mail. “Volatility might be explained by uncertainties surrounding the complicated development of the labor-market reforms.”

The reform passed March 23 by Monti’s Cabinet allows companies to fire workers for economic reasons without the threat of a court ordering their reinstatement. Employers say the current rule, which allows judges to reverse dismissals, makes them reluctant to hire when times are good because they can’t easily shed workers when the economy softens. Companies will no longer have an excuse to avoid taking on workers, Monti said when he announced the plan.

German Model

Monti imposed the change after two months of negotiations with unions and employers failed to produce an agreement. The next day the CGIL called a general strike and Democratic Party leaders began to talk of reversing the change in parliament.

“It’s inconceivable that there will only be economic compensation,” Pier Luigi Bersani, the head of the Democratic Party on whom Monti relies for backing in parliament, said last week. “This is a fundamental point, otherwise the narrative isn’t ours, it’s not European, but American. Everyone says that things work better in Germany,” so how can markets object if the German model is adopted, he said.

Judges in Germany have the power to reinstate workers for economic reasons.


Monti’s government has remained in power through the broad support of the country’s three main political parties, including the Democratic Party with its 205 seats in the 630-seat Chamber of Deputies. The other two, former Prime Minister Silvio Berlusconi’s People of Liberty Party and the Third Way alliance, back Monti’s stance on the firing rule.

The issue may be hurting the premier’s popularity. Monti’s approval rating fell 4 percentage points to 55 percent after his cabinet endorsed the labor bill, a poll by IPR Marketing showed yesterday. Still, Monti’s rating compares with 22 percent for Berlusconi in November.

Monti has made some concessions by having his Cabinet pass the labor changes as a draft law, rather than a decree, which would have implemented it immediately and limited the debate in Parliament.

“Given the strong opposition coming mainly from some trade unions, it cannot be ruled out that there will be some changes on this front,” UniCredit SpA economists Chiara Corsa and Loredana Federico, both based in Milan, wrote this week in a note to investors.

‘Absolute Respect’

The government has “absolute respect” for Parliament, though won’t “accept changes that weaken the sense” of the bill, Labor Minister Elsa Fornero told la Repubblica in an interview on March 26. Monti told reporters in Tokyo yesterday that he hopes the Parliament will approve the labor bill by the end of the spring.

“Monti will set a high bar on this issue because he’s aware that they need to tackle the labor market inefficiency,” said Fabio Fois, a European economist at Barclays Capital in London. Parties “will have to find a way to compromise without watering down the overall structure of the reform,” he said.

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