Euro zone break-up fears back on the table with Italy expected to reject reforms

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The impact of a "no" vote in the upcoming Italian referendum could be far more serious for Europe than Italy, according to analysts, who believe it would form part of the same underlying force as Brexit and the U.S. election victory for Donald Trump.

Italian citizens will vote on constitutional reform on December 4 with Prime Minister Matteo Renzi gambling his political future on the decision. He has said he would resign if his wholesale changes to the political system are rejected by the country.

In 32 opinion polls published by 11 different pollsters over the past four weeks, all indicate a lead for the "no" camp and generally by an increasing amount, according to Reuters.

Bigger tail-risk than Brexit

Holger Schmieding, chief economist with Berenberg Bank, told CNBC in a phone interview that the risk involved in Italy's referendum makes it an even bigger political event than Brexit.

"For me, this is the biggest political risk for the euro zone this year … Less the referendum and more the tail risk," he said.

"If the aftermath of a 'no' victory results in an early election, in which parties propose a referendum of leaving the euro then this is much more of a problem, there will be serious contagion effects for the whole of the euro zone," he added.

All is not yet lost for Renzi as opinion polls have incorrectly predicted the outcome of both Brexit and more recently, with Donald Trump's election victory.

Though should Renzi fail to convince Italian citizens to vote in favor of constitutional reform, most analysts expect the 41-year-old to stick to his promise from earlier in the campaign and resign.

Gone in 60 seconds

Renzi needs to persuade undecided voters: Author
Renzi needs to persuade undecided voters: Author

Francesco Oggiano, the author of "Beppo Grillo Parlante", told CNBC on Monday that Renzi would resign "one minute after the result" if the referendum produced a win for the "no" campaign .

Effectively, Oggiano explained, these reforms would result in a reduced role for the upper house Senate and limit the influence of regional government.

Italy's Five Star Movement (5SM) party is strongly against constitutional reform and, if opinion polls are to be believed, 5SM is firmly on track to be on the winning side in December.

In fact, 5SM hopes to capitalize on any momentum gained in the event of a referendum victory and possibly pip Renzi's Democratic Party at the next election, which could be triggered as early as spring 2017.

Populist parties throughout Europe celebrated the victory of Trump last week with far-right groups in France, the Netherlands and Germany buoyed by his surprise win.

Oggiano believes Italy's 5SM's support of the "no" campaign ultimately boils down to its opposition on a new electoral system that it believes is combined to the constitutional reform.

He said, "according to the Five Star Movement, people won't be able to choose their own representatives in the parliament and this is the most important point."

"The result (of a 'yes' victory) would be a parliament full of bureaucrats chosen from their parties that, once elected, will just get to satisfy their leader instead of people's needs," he added.

Renzi argued in an open letter to Italian citizens on Friday that a "yes" vote would make Italy stronger.

Italy 'cannot afford' another economic shock

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Political uncertainty is being reflected in the markets already and Florian Baier, economist with Fathom Consulting, warned that the country's fragile banking sector cannot afford another economic shock.

Italy's bond yields were among the most effected from a global bond rout on Monday. The country's 10-year bond yields rose to their highest level in over a year as investors continued to fear that President-elect Donald Trump will cause an upward trend in inflation over the coming years which, traditionally, tends to have an adverse effect on bonds.

Baier suggested that Renzi had personalized the vote by saying outright that he would resign if he lost and now people have an opportunity to turn their back on his government.

"Brexit, U.S. elections and the upcoming Italian referendum are all part of the same underlying force – a shift towards isolationism," he said.

"Right-wing support like with Marine le Pen in France and the AfD Party in Germany … It's all part of the same global shift. There is nowhere in the world where cross border co-operation is more important than in the euro area and the referendum is a challenge to that," he added.

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