Austerity and Bail-Ins Fan Populist Flames

The Italian economy is growing, albeit barely. But Italy is still saddled with massive amounts of debt.

Citizens are upset about a recovery that has passed most of them by. For example, youth unemployment is a whopping 39.8%.

That's a lot of potential voters rightfully upset about things. For them, promises are many, and gains are nonexistent.

Topping off the discontent, Italy Bank Rescues Spark Bail-In Debate as Anger at Renzi Grows.

In 2013, Sergio Picinotti, a 63-year-old unemployed man living with his elderly mother, invested much of their nest egg of €40,000 in a bond issued by Banca Etruria, their local bank based in the medieval Tuscan city of Arezzo.

"They said 'what are you doing keeping that in your checking account? Put it here, you'll earn 4 per cent flat," Mr Picinotti recalls. "A friend at the bank told me: 'Trust me, it will take the third world war to shut down Banca Etruria'."

Today, Mr Picinotti has lost all that money, but Banca Etruria never closed: in fact it was saved from collapse last month along with three other small banks in a dramatic rescue operation engineered by the centre-left Italian government led by Matteo Renzi.

The trouble is there was a price to pay: under the terms of the deal, several thousand subordinated bondholders such as Mr Picinotti were wiped out along with Banca Etruria shareholders, while holders of senior debt and depositors were spared.

"They stole it all, I'm living on the edge," says Mr Picinotti.

But the reverberations of the bank rescue have also been felt far beyond Tuscany: as Europe prepares to institute new rules from next year which would force losses on bank creditors and big depositors, the saga of Banca Etruria serves as a cautionary tale to politicians and policymakers about the public backlash that could follow any future "bail-ins".

On a national level, anger has been mounting towards Mr Renzi for his handling of the affair. It has created an unlikely hotbed of discontent with the 40-year-old prime minister and former mayor of nearby Florence in a region that is traditionally sympathetic to his own political party at a time when he is already battling declining polling numbers.

The Banca Etruria case has also revived worries about the health of the Italian banking sector, which remains saddled by more than €200bn of non-performing loans (NPLs) and has barely started to increase lending again after the end of a bruising triple-dip recession. It has also raised questions about the effectiveness of regulators at the Bank of Italy and Consob, the stock market regulator. Italian officials have defended the solidity of their banks and the work of their regulators, and pointed to new reforms of small bank governance. But Francesco Galietti, an analyst at Policy Sonar in Rome, said: "If there was such a kerfuffle with four regional banks, what will a large resolution look like?"

Italy's 5-Star Movement to Challenge Renzi

With the above bailout and unemployment backdrop, it should not be surprising to see the eurosceptic Five Star Movement on the Rise.

When the populist Five Star Movement burst into Italian politics in 2009 during the financial crisis, it was defined by uncompromising protests and the burly, sardonic figure of its leader, the comedian Beppe Grillo.

But the Five Star Movement is now attempting to change its face from that of one of Europe's most eccentric -- even clownish -- political parties. The transformation aims to achieve what seemed like a fantasy only a year ago: to govern the country and challenge the centre-left government led by prime minister Matteo Renzi.

Mr Grillo, 67, has removed his name from the party logo, signalling that he may soon step aside. His most likely heir is Luigi Di Maio, a 29-year-old smooth-talking Neapolitan with polished looks, tight-fitting dark suits and moderate tones.

"The perception of the movement has changed," Mr Di Maio tells the Financial Times. "At the beginning there was the idea that this was a protest movement ... But we crashed through that wall. We want to govern."

The odds of that happening are increasing. The Five Star Movement is now Italy's second party. After trailing Mr Renzi's Democratic party by nearly 20 percentage points a year ago, recent polls suggest the margin has shrunk to about 5 percentage points -- 32 per cent to 27 per cent.

The Five Star Movement has won a few municipal races -- clinching control of small cities such as Parma, Livorno and Ragusa. The results have been mixed. The mayor of Livorno, for example, has faced harsh criticism after a scandal over uncollected rubbish broke out in the Tuscan port city.

A bigger test of the Five Star Movement's strength is to come next year, when local elections will be held in some of Italy's largest cities. The big prize is Rome, the scandal-ridden capital where Five Star has been riding high in the polls after the resignation of Democratic party mayor Ignazio Marino in October.

The Five Star Movement's platform has been based on a few key pillars that have drawn supporters from both the right and the left: opposition to corruption, environmentalism, and a referendum on euro membership, which Mr Di Maio blames for many of Italy's economic woes.

"The real failure of monetary union is to think that countries in the south should travel at the same speed as the ones in the north," he says.

Lately, his party has been lashing out at Italy's rescue of four small banks, which wiped out thousands of retail investors holding junior debt.

"Their goal was to save the bankers, not the citizens," Mr Di Maio wrote on his Facebook page last week. There are some signs he has tried to moderate Mr Grillo's sharper edges. Mr Di Maio recently helped broker a deal with Mr Renzi's PD for the appointment of three constitutional judges.

And he is keen to distance himself from another populist party shaking Europe's establishment, France's far-right National Front. Its rise reflects a "climate of general indignation", says Mr Di Maio. Yet the Five Star Movement, he insists, is not a populist toxin but its antidote: "We're the natural spokesman of citizens. We are a barrier against hatred and extremism".

Get Your Money Out of Italian Banks Now!

The goal is always to bail out the banks at any expense, especially that of taxpayers. The bail-ins in December are a huge warning shot at what's highly likely in 2016.

If you have money in weak banks after this mess, you are crazy. Cyprus, Greece, and Italy have all provided warning shots. I have been warning about these setups for years. And in 2016, banks can go right after depositors if necessary.

It will be very interesting to watch target2 imbalances (a measure of capital flight) following this bail-in debacle. The political scene looks interesting as well. Renzi's days may well be numbered.

If the Renzi government falls, it's highly likely it will be to a eurosceptic party. In this regard, Greece was a sideshow. Italy is the real deal.