Does it Pay to Have the Euro? Italy's Troubled Politics and Financial Markets Under the Lira and the Euro

Abstract

There is a broad consensus that the quality of the political system and its institutions are fundamental for a country's prosperity. The paper focuses on Italy's troubled politics over the past 35 years and asks whether the adoption of the euro in 1999 has helped insulate Italy's financial markets from the adverse consequences of its unstable political system. We find that important political events, such as collapses of governments, resignations, elections and politically motivated terrorist attacks, have exerted a statistically and economically significant effect on Italy's financial markets throughout the 1970s, 1980s and 1990s. The introduction of the euro appears to have indeed played a major role in insulating financial markets from such adverse shocks. The findings of the paper therefore suggest another important economic dimension and channel through which Italy has benefited from the adoption of the euro.

Keywords: Euro; Italy, political economy, exchange rates, asset prices, financial markets, shocks

JEL Classification: F31, F33, G14