Mario Draghi has tendered his resignation as Italy's prime minister after his government coalition failure.
Draghi (pictured) offered his resignation late last night (14 June) after the second biggest party in his coalition, populist group Five Star Movement, withdrew its support in a confidence vote.
However, Draghi's resignation has been rejected by Italy's president Sergio Mattarella, creating some uncertainty as to what will happen next.
The former head of the European Central Bank has spearheaded a unity government in Italy since early 2021.
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In his statement, he said that the "the loyalty agreement that was the foundation of my government has gone missing" after Five Star's no confidence vote.
"The majority of national unity that backed this government since it was set up is not there anymore."
The Italian market has reacted poorly to the political turmoil with the FTSE MIB down almost 4% and Italian bond futures plunged to their lows for the day. The euro dipped back below parity with the US dollar after the news. September futures on 10-year Italian government debt fell below 122, the lowest since June and below their 21-day moving average.
Silvia Merler, head of ESG and policy research at Algebris Investments, said that "the Italian political crisis seems to be following the script of a classic Italian government reshuffle."
Merler pointed out that even without the support from Five Star Movement Draghi still has a majority, meaning that early elections are unlikely, which would be "very challenging for Italy".
"Elections would likely be held in October, with economic tensions expected to be on the rise in the autumn, an environment complicated by the possible resumption of Covid-19 infections and the tangible risk of being cut off from Russian gas," she said.
"Elections would likely deliver a government with a strong right-wing component, which may be inclined to take a more confrontational stance vis-à-vis Brussels.
"Italian bond yields would likely react significantly to such a scenario, and it would be difficult for the ECB to deploy any spread compression tool that would not come with strong conditionality attached.
"Even if the worst-case scenario of early elections is avoided, this crisis shows that political instability remains very much a structural feature of the Italian institutional landscape, and may result in some repricing of country risk on the expectation that the Draghi government may be challenged again before the end of its term."
