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Europes make-or-break
country
What is wrong with Italys
economy?
By Ferdinando Giugliano and Christian Odendahl
Europes make-or-break
country:
What is wrong with Italys
economy?
By Ferdinando Giugliano and Christian Odendahl
After Matteo Renzi lost his referendum on constitutional reform and resigned, Italy returned to the
European spotlight. Although Italy is a founding member of the EU, Italian public support for the
European project is among the lowest in Europe; it is the eurozones third largest economy, but its
economy is the same size as it was in 2000; and it still has the third largest sovereign debt burden in the
world, after the US and Japan. Italy could yet pull the eurozone apart and indeed the EU.
Italys dismal economic record has two potential causes: its membership of the euro, and successive
governments failure to reform the Italian economy.
Membership of the euro has not helped Italy. In the run-up to the crisis in 2008, imports and exports with
its eurozone peers grew and inflation fell, but productivity growth slowed as low interest rates stimulated
investment in unproductive sectors of the economy. And Italys total exports to countries inside and
outside the eurozone grew only slowly over the euros first decade. Tight monetary and fiscal policies
during the euro crisis made Italys situation worse, as did the European Central Banks failure to act as a
lender of last resort to the Italian government until 2012. Italian banks, tied to the increasingly weak Italian
economy and the highly indebted government, struggled to provide finance to more productive firms.
But Italy mostly has itself to blame. The abysmal productivity growth over two decades is also down
to successive governments failure to invest in infrastructure, research, education and skills; to make
its public institutions and judicial system more efficient in order to help the most successful and
productive businesses grow; to raise the employment rate of both men and women; and to promote the
deployment of labour and capital to productive companies.
Solving Italys economic problems will require further domestic reforms, including:
cuts to employers social contributions to encourage hiring, and lower subsidies for unproductive jobs
while giving more support to the unemployed, especially re-training;
more investment in schools and universities, especially in the quality of teachers and academics;
reduced bureaucracy to make it easier to start a business and pay taxes, and reform the justice system
so that disputes are resolved more quickly;
a swift and thorough consolidation and recapitalisation of Italys banking sector, preferably by raising
capital on private markets; and
switching expenditure from public consumption, such as the pension system, towards public
investment.
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The eurozone should support such efforts by making reforms of its own:
keep monetary policy loose and ensure that the average fiscal stance of eurozone governments
supports demand;
change fiscal rules to encourage governments to invest more and consume less, including in Italy; and
complete the banking union, which requires weaker states to reduce the amount of risk on their
banks books, and stronger states to share risk in the form of common European deposit insurance.
Italy and its economy are back in the spotlight. The eurozone and the EU will continue to
struggle unless the Italian economy recovers. It is the third largest eurozone economy, but output
is still roughly where it was in 2000 and nearly 9 per cent lower than it was before the crisis in 2008,
while unemployment is stuck at more than 11 per cent half of which now comprises long-term
unemployed (see Chart 1). Approval ratings for the EU are among the lowest in Italy.1
While Greece has dominated the headlines in recent
years, the Greek economy is not large enough to pull the
eurozone apart. And concerns about Greek contagion to
other economies were really about Italy, as it is too big to
bail out. If Italy decided to leave the euro, a financial crisis
would be unleashed across the currency union.
There are two competing explanations for the sorry state
of Italys economy. The first is that Italy entered the euro
without being able to handle the consequences. The
country gave up the freedom to devalue its currency
to compensate for its relatively high inflation and wage
growth; euro membership led to a steep fall in interest
rates, which encouraged borrowing and investing in less
Chart 1:
Italys
unemployment
and growth
record show
an economy in
trouble
Source: Haver.
Unemployment rate
12
420
10
400
380
320
300
20
19
19
19
19
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
99
340
97
19
98
96
360
95
billion euro
14
1: The EU average is 53 per cent. Only the Czech Republic and Greece
have lower EU approval ratings than Italy. European Parliament,
Parlemeter 2016: Analytical overview, November 2016.
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Chart 2:
Italys long-term
performance is
dismal
Source:
Haver, authors
calculation.
2.5
2.0
1.5
1.0
0.5
0
-0.5
-1.0
-1.5
-2.0
-2.5
Italy
Germany
France
Spain
Greece
Netherlands
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Chart 3:
Consumption,
investment and
exports
(March 2007 =
100)
Source: Haver.
Public consumption
Private consumption
Investment
Exports
110
105
100
95
90
85
80
75
70
65
60
2007
2008
2010
2009
Italy has long prided itself on its industrial base, which still
accounts for around 18 per cent of the Italian economy.
However, the recession has had a devastating impact
on this sector: in real terms the manufacturing sector
Chart 4:
Real gross
value added
has fallen
throughout the
economy (in
million 2010
euros)
Source: Haver.
2011
2012
2013
2014
2015
2016
Industry
Construction and real estate
Tourism and food
Professional, ICT and financial services
Public services and education
80000
75000
70000
65000
60000
55000
50000
45000
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
19
19
96
40000
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20
75
18
70
16
65
14
60
%
12
55
50
8
45
40
Italy
16
15
14
20
20
13
20
12
11
10
20
20
20
09
20
20
08
07
20
06
20
20
04
20
20
02
20
20
20
19
05
30
03
0
01
35
00
10
99
Source: Haver,
authors
calculation.
Part-time employment
Employment rate (Female, right hand axis)
Temporary employment
Employment rate (Male, right hand axis)
20
Chart 5:
Low
employment
rates
(per cent of
working-age
population)
and high shares
of temporary
and part-time
employment
(per cent
of total
employment)
France
Germany
Eurozone
Spain
UK
55
50
45
40
35
30
25
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
20
06
20
05
20
04
20
03
02
20
01
20
00
20
99
20
98
19
19
97
19
96
19
95
20
19
Source: Haver,
authors
calculation.
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Chart 7:
Italys total
factor
productivity in
decline since
1999 (1985 =
100)
Source: Haver,
authors
calculation.
Italy
France
Germany
UK
Spain
140
135
130
125
120
115
110
105
100
95
15
20
12
20
09
20
06
20
03
20
00
20
97
19
94
19
91
19
88
19
19
85
90
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Chart 8:
Italys
disappointing
export
performance
(exports as a
share of GDP)
Source: Haver,
authors
calculation.
Italy
Germany
Eurozone
60
50
40
%
30
20
10
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
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the short term, when interest rates are low and inflation
below target: there would be no crowding out of
private spending and investment. For example, research
on Matteo Renzis flagship income tax cut aimed at
giving those earning 8,000-26,000 a year a tax cut
worth 80 per month has shown that households
spent the windfall, rather than saving it, thereby
raising consumption.7 And the former prime ministers
property tax cut, enacted this year, should have a
similar, although weaker, effect.8 Higher economic
growth and inflation would in turn lower the debt
burden, relative to GDP.
However, there is a risk that tax cuts will merely lead to an
import boom, and not to the domestic nominal growth
10: Simon Tilford, German rebalancing: Waiting for Godot?, CER policy
brief, March 2015.
11: Olivier Blanchard, Christopher Erceg and Jesper Lind, Jump starting
the euro area recovery: would a rise in core fiscal spending help the
periphery?, NBER Working Paper, July 2015.
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Another reason is that small firms use ICT less than larger
ones, and Italian firms are relatively small by international
comparison.14 If the best and most productive firms
are able to invest and expand, this in turn drives up
the economys productivity. There are many barriers
to company growth in Italy. For example, the countrys
strong tradition of family ownership may be a rational
12: Fadi Hassan and Gianmarco Ottaviano, Productivity in Italy: The great
unlearning, VoxEu, November 30, 2013.
13: Nicholas Bloom, Raffaella Sadun and John Van Reenen, Americans
do IT better: US multinationals and the productivity miracle, American
Economic Review, February 2012.
14: Franco Amatori, Matteo Bugamelli and Andrea Colli, Italian firms
in history: Size, technology and entrepreneurship, Bank of Italy
Economic History Working Paper, October 2011.
15: Silvia Giacomelli and Carlo Menon, Firm size and judicial efficiency in
Italy: Evidence from the neighbours tribunal, SERC Discussion Paper,
May 2012.
16: Fadi Hassan and Gianmarco Ottaviano, Productivity in Italy: The great
unlearning, VoxEu, November 30th, 2013.
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18: Paolo Sestito and Elena Viviano, Hiring incentives and/or firing costs
reduction?, Bank of Italy Occasional Paper, March 2016.
19: Paolo Manasse and Thomas Manfredi, Wages, productivity and
employment in Italy: Tales from a distorted labour market, VoxEu,
April 19th 2014.
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11
Chart 9:
Share of 2564 years old
with tertiary
education
60
Source: OECD.
40
50
30
20
10
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Ferdinando Giugliano
Christian Odendahl
Chief economist, CER
December 2016
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12