Dollar extends rally, euro weak; political risk jolts Italian markets

Luigi Di Maio is the leader of the 5 Star Movement

Luigi Di Maio is the leader of the 5 Star Movement

Italy looks set to finally get a government, led by a coalition of two Eurosceptic populist parties, the Five Star Movement and the Northern League.

"It would be insane to give up at the moment of truth", League leader Matteo Salvini said in a live video stream on Facebook, adding that he would not be intimidated by negative reaction from financial markets or attacks from the media.

Eurozone banks slid an even bigger 1.71%, extending losses despite a League spokesperson saying the request for cancellation of the debt was not in the official draft of the government programme.

"It would be insane to give up at the moment of truth", he said, adding that he would not be intimidated by negative reaction from financial markets or attacks from the media against the two anti-system parties.

"The more they insult us, the more they threaten us, the more they blackmail us, the more desire I have to embark on this challenge", he said.

Markets were also unfazed by Italian politics with the bigger focus being a rocketing dollar and rising USA borrowing costs, which have spooked investors in recent weeks and intensified concern about damage to global demand, squeezing emerging markets. Two-year Italian government yields are now back in positive territory for the first time in nearly a year - the only other positive yielding two-year euro zone government bond is Greece.

It's a slim possibility but one that can not be ruled out, especially after a leaked agreement between the two sides showed discussions have taken place about Italy abandoning the single currency. "The next few days will be crucial", Luigi Di Maio told reporters after meeting with Mr. Mattarella.

Italy's two populist parties will try to reach a deal on forming a government after a leaked draft revealed plans to defy European Union rules on migration and debt.

The opposition Democrats, who controlled the outgoing government, warn that the League's vow to drastically lower taxes to a flat 15-percent rate, and the 5-Star's promise to give government subsidies to low-income Italians will spook financial markets and drastically drive up government borrowing costs.

"It's very clear that in current times of economic growth Italy needs to put its debt on a downwards trajectory", European Commission vice president Valdis Dombrovskis said in Brussels on Tuesday.

Italy's debt mountain is €2.3bn, or 132% of GDP, the highest ratio anywhere in Europe apart from Greece.

Both parties have a history of Euroscepticism. Di Maio and Salvini have yet to say who will be prime minister. "The government is not [yet] formed, we have to wait and see".

The 5-Stars strongly appeal to voters in the south, where youth unemployment runs higher than 50 percent in many areas.

"While the situation in Italy is a concern for currencies, the 5-Star Movement sees Britain struggle with its European Union exit plan and is unlikely to pursue a similar agenda".

With Italians increasingly restive over the failure to form a new government in Rome, the parties angling for power do not have the luxury of time.

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