by Loredana Federico, Economist UniCredit Research

The center-left coalition won the Lower House by an exceptionally thin margin, but the Senate is hung.

Compared with the opinion polls, Grillo's Five Star Movement (M5S) is the real surprise, with about 25% of total votes. Center-right performs better than expected, particularly in a couple of important regions (thereby "capturing" the Senate), while Monti's middle coalition did worse than projected. The resulting situation is complex.

The most likely outcome is that Bersani will be asked to form a government, but he'll need support from the M5S. While the experience in Sicily suggests a possible cooperation between the center-left and M5S, at this time we regard this outcome as an unstable coalition.

This suggests a bi-partisan agreement to change the electoral law (possibly with a few other reforms thrown in), followed by new elections. This implies some months of measurable political uncertainty.

We reiterate our long-held view that in terms of policies, the only real risk lies in any significant undoing of existing fiscal or structural policies – and that we see as unlikely.

Conclusion
More than anything, the outcome of the Italian election illustrates a very high degree of voter disaffection with the traditional parties and many mainstream politicians. The percentage of voters who decided to stay away from the polls was about 25% in both the houses of parliament, compared with about 19% recorded in the 2008's elections. This general opposition to the "establishment" was confirmed by the very high popularity of M5S. Indeed, the performance of M5S over the last few weeks of the official campaign was impressive and its leader, the comedian Beppe Grillo, was particularly able to capture some voters' interests in non-conventional political forces and disenchantment with the "old" political parties (on both sides of the political spectrum), so many times hit by political scandals and unable to fix Italy's long-standing problems.
As such, the relative victory of M5S is an important message to the established parties, which may – eventually – lead to something good, including a cut in the excessive cost of government. And in terms of policies, our view remains that Italy needs no further net fiscal tightening – indeed some well designed, "smart" easing might be called for – and while we always wish for more structural reforms, there is still measurable positive growth effects in the pipeline from this past year's reforms. In other words, Italy does not need new draconian measures in the short term, but just an avoidance of any back-pedaling on the policy front. That all said, the election outcome will lead to further uncertainty in markets for at least a few months. Good thing that the sovereign has already funded almost 25% of its full-year need. Also abundant redemptions in April should provide support to the auctions, limiting pressure coming from supply. The odds are, therefore, that the weakness in markets will be relatively contained.

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