Italy is the sick man of Europe, and also very contagious

Italy had its general election on February 25-26. The centre-left coalition led by the Democratic Party’s Pier Luigi Bersani obtained a large majority in the Chamber – where the electoral law awards a majority bonus to the largest coalition at the national level – but in the Senate the situation is fragmented. The centre-left and Silvio Berlusconi’s centre-right each gained around one third of the seats, and the populist Movimento 5 Stelle took around one quarter (on the latter party see Alberto Mingardi’s analysis). Under the Italian constitution a government must obtain a confidence vote in both chambers, but given the situation in the Senate, it is very likely that the country will hold new elections very soon. What will happen in the meantime?

At the moment it is very hard to tell. What is certain is that Italy’s only certainty will be uncertainty. Uncertainty will make it harder to deal with the country’s long-lasting, structural problems – the most prominent one being a very high public debt. It is no surprise that the markets reacted to the Italian vote by demanding higher interest rates for treasury bonds. As the following graph shows, as the electoral returns became clear the spread between Italy’s Btp and Germany’s Bund grew by more than 60 basis points almost instantaneously.

The international markets’ sensitivity for political conditions in Italy is based on the fear that the country’s public debt of over 2,000 billion euro may be unsustainable. The public debt is as high as 127% of GDP. Worse still, the former is rapidly growing, while the latter is expected to keep decreasing. Consequently, the country spends about 5 per cent of its GDP, or 10 per cent of total public expenditures, on interest payments. Since Italy has committed – and rightly so – to maintain a balanced budget, this means that we must keep a primary surplus of as much as 5 per cent which, during a recession, may not be an easy task.

The rational consequence of all the above is that Italy’s only hope to make it possible to solve its problems is a major reduction in public debt. Luckily enough, the country – both at national and local level – owns a large number of assets that might be privatised. A study (PDF, in Italian) performed by Nicolò Bragazza and Gabriele Vecchio on behalf of Istituto Bruno Leoni showed that, over 5 years, the country might sell a broad range of government-owned property and raise as much as 271 billion euro. This would also help to spur competition as public monopolies were broken up.

While a large privatisation plan is by no means sufficient to solve Italy’s problems, it is absolutely necessary. It is very unlikely, however, that such a policy will be given serious consideration. For example, a few days ago the Democratic Party released an eight-point agenda to form a government coalition with the Movimento 5 Stelle (which doesn’t seem interested in joining forces, though). In the first point, Mr Bersani calls for a ‘break from the austerity prison’, arguing for ‘public debt and deficit mid-run targets’, meaning that, in the short run, Keynesian spending may be a solution to create jobs and growth.

In this political climate, hardly anything good may come from Italy, making the country not just the real sick man of Europe, but also very contagious because of its potential impact on the EU’s economy and the euro itself. As the Marines would say, Situation Normal: All Fouled Up!