Italy has struck a deal with the European Union to create a new system to manage its sizable nonperforming loan problem. Talks had been underway for a year with little progress, but in January the dramatic fall of Italian bank share prices added impetus to the negotiations. Talks finally concluded with an agreement between Italian Finance Minister Pier Carlo Padoan and European Commissioner for Competition Margrethe Vestager.

The question of whether to allow state aid to prop up banks was the most contentious point of negotiations. A country's banking system acts something like its blood supply, so governments tend to be extremely motivated to quickly solve any problems that arise within it, often using public money. But the linking of government and bank finances was partly to blame for the 2011-2012 European sovereign debt crisis. Since then, the European Union has taken steps to avoid such hazardous linkages. New EU rules implemented Jan. 1 were supposed to make the investors for financial institutions suffer the pain of bank failure before taxpayers. Yet, as a result of this new arrangement, investors felt compelled to sell off their debt, which contributed to a drop in share prices that in turn reinvigorated negotiations. 

Padoan arrived in Brussels hoping to secure an exemption from the EU rules against state aid. He wanted to be allowed to use government guarantees to help Italian banks sell off their bad loans, averting disaster in the process. Vestager arrived with a dilemma: Should she stick to the principles that were established after the 2012 crisis or bend them to prevent another crisis for the circulatory system of Europe's third-largest and most indebted economy (in absolute terms)? The solution seems to be to do both.

The new deal will create not just one bad bank but a new system in which the government helps Italian banks bundle their loans into new parcels for sale on the open market. A key question during negotiations was whether the Italian government would be allowed to subsidize these bundles with taxpayer money to make them more attractive to potential buyers. This is an important consideration because the riskiness of these loans gives them a rather low market value, meaning that if Italian banks were to sell them at market rates they would have to absorb the loss, further damaging their shaky balance sheets. The new system, to be known as garanzia sulla cartolarizzazione delle sofferenze (or GACS for short), is a compromise in which the government plays a role in the bundling and selling and is allowed to use a 40 billion-euro ($44 billion) fund to guarantee the least risky parts of the bundled loans. The loans, however, will be sold at market prices.

That a deal was made, alongside the creation of a bad bank mechanism — however loosely that is defined — enables the two sides to trumpet the arrangement as a success. That the loans will still be sold at market prices lets Vestager claim that she did not waver on the EU ban on state aid. Thus, both sides are able to present the deal as a sort of miracle cure for Italian banks. But that is unrealistic. Difficult negotiations are made difficult because one side or both have to give up something for a deal to be struck. If a deal can be made without concession, it doesn't take a year to come about. However, there is the possibility that the loser will be neither the banks nor the European Union but the market players who have been selling Italian bank shares. If the negotiations arrived at a compromise that hurts neither party yet satisfies the "audience" — those market players, speculators and observers — it may be the ideal situation for Brussels and Italy.

At first sight, this deal appears to change little. Before the agreement, Italian banks had been able to sell their nonperforming loans on the open market; the problem was that market prices were too low for them to do so. Now that an agreement has been made, they are still selling loans at the same prices. Only now the Italian government is guaranteeing the safest loans, which the banks could probably have received a reasonable price for anyway. This leaves the riskier ones unaffected. The hope appears to be that by making safer loans more attractive it will whet the appetites of investors, who will then be more willing to buy the riskier debt. If this is the case, the deal looks more like a showpiece for the markets — a reassuring meeting and a confident announcement that the problem is solved. Nevertheless, the performance appears to be working. After the news broke, shares for Monte dei Paschi, Italy's most troubled bank, rose 4.5 percent, and Italian bond yields hit eight-week lows. This was slightly tempered later on, however, as the Italian banking sector index fell 2 percent by midday.

As we wrote last week, part of Italy's problem has been timing. It caught global market attention just as uncertainty prevailed. Tuesday's deal may not have greatly changed the actual situation, but it does have the potential to change market sentiment. This change of feeling is not guaranteed to last, however, and such showpieces tend to become less effective as details are scrutinized more closely. There are also more details yet to emerge, and it could still transpire that Vestager is the loser of the deal if the Italian government is able to vigorously intercede in the sale of nonperforming loans, undermining the new EU principles in the process. But as things stand, with both sides appearing to have won, the loser of the negotiations would seem to be the investors themselves. If that is the case, there is a strong possibility that the market will soon catch on, and it wouldn't take long for incredulity to turn to fury. Under such circumstances, Vestager and Padoan would have little choice but to rush back to the negotiating table. And this time around, one or both of them would be forced to concede something that really mattered.