The international reaction to the result of the recent Italian referendum on constitutional reform was curious. Voters rejected the reform wholeheartedly, and commentators around the world hailed the result as another victory for populism. This is simply wrong, and it represents a lesson for investors never to interpret political events superficially. But it also shows how difficult it is to evaluate political risk, which tends to be exaggerated.
It is true that the country’s two main anti-establishment parties – the Five Star Movement and the Northern League – urged supporters to vote no. But many establishment figures also voted against the reform. Pundits also warned that the result, which led to the resignation of prime minister Matteo Renzi, the architect of the reform, would plunge the country into chaos. This has not been the case.
At the time of writing, Italy had a new prime minister, Paolo Gentiloni, foreign minister under Renzi. He was appointed to address some of the most urgent matters, and can work with a majority in parliament. Italy needs changes to the current electoral law (it is deemed unconstitutional) and has to sort out its weak banking system quickly.
The reason why many commentators got it wrong is probably that they did not know what was at stake in the referendum – a complex mix of constitutional changes that could have reshaped the country’s politics. This was more than a turf war between populists and establishment parties.
Such superficial interpretation of the referendums’ result shows that while we aspire to have a global outlook, often our understanding of local political issues can be limited. This is particularly pertinent in the context of investment.
Can institutions be true global investors despite such obvious limitations? There are two potential answers: one could either disregard political risk altogether; or dig deeper to achieve a better understanding of political events.
Whatever the answer, one should never forget that long-term fundamental economic variables tend to weigh more on investment outcomes than isolated political events. While it is possible to identify several political developments in a country’s history that have clearly influenced its economic trajectory, these developments are few and far between.
The Italian referendum was not one of them, regardless of the outcome. What about Brexit, or the election of Donald Trump in the US? Again, it is unlikely that either can dramatically change the long-term outlook for the global economy. This is particularly the case, given how persistent other structural developments (such as an ageing population, low productivity growth in developed economies and the rise of emerging markets) are proving to be.