Forget Moody’s. If you want to see market panic, just look at Italy. As Isabel reported this morning, the unexpectedly strong performance of Beppe Grillo’s anti-establishment party, the Five Star Movement, has produced an extremely close election result, and no clear winner.

While the electoral system guarantees a majority in the Chamber of Deputies for the group with the largest vote share (Pier Luigi Bersani’s centre-left group), it does not do so for the Senate. With no group securing a majority in the upper house, Italy now faces coalition negotiations and likely another election.

Citi calls this ‘probably the worst possible outcome for Italy’ — thanks to the political uncertainty, the ‘anti-austerity message being conveyed by voters’ and the ‘absence of a cohesive and credible political leadership’. And the markets seem to agree. The Italian stock exchange has fallen by 6.7 per cent since yesterday afternoon, and the euro is down by around 2 cents against the dollar, from $1.33 to $1.31. The yield on ten-year government bonds has risen by 0.32 points, from 4.49 per cent at close yesterday to 4.81 now – though it’s still nowhere near the 7.4 per cent high seen when Berlusconi resigned in November 2011.

Unlike the UK, Italy’s economic problems do not include a particularly big deficit:

Indeed, the Italians have eliminated their structural deficit, something the UK won’t achieve until 2018 at the earliest:

Instead, Italy’s problems are a very weak economy and high government debt. It’s GDP is now 7.7 per cent below its pre-recession peak, and is expected to continue to fall this year:

And whereas the UK entered the recession with government debt below 40 per cent of GDP, Italy’s was already around 90 per cent, and now stands at about 100 per cent:

If the Italians are to tackle that debt burden, they’re going to need to press on with the austerity programme they’ve shown such hostility towards in these elections.

Tags: Economy, Elections, Euro-crisis, Eurozone, Italy, Markets