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 user 2005-05-29 at 11:20:00 am Views: 62
  • #9663
    Italy’s Economic Woes
    May Prompt First Euro Exit

    May 05– Looking for a bet on Europe’s most unexpected economic event of the
    next decade? How about a wager on Italy leaving the euro area? Who knows, you
    might even be able to collect your winnings in lira.

    In the past few months it has become painfully clear that Italy, which was
    the euro’s most fervent supporter before the single currency’s introduction, is
    its most prominent victim.

    No other country has suffered so much from the disciplines that the euro
    imposes. The door marked “Exit” must be looking increasingly attractive.

    That Italy has now been plunged into an economic crisis is clear from even a
    cursory glance at the figures.

    Last week, it was announced that Italy had slipped back into recession, the
    country’s second in two years.

    Gross domestic product shrank 0.5 percent in the first quarter, the steepest
    drop in six years. That came after a contraction of 0.4 percent in the previous
    three months, according to the statistics office Istat. In total, the Italian
    economy, the fourth-largest in Europe, has lagged behind the rest of the euro
    area in eight of the last nine years. It has dropped to 47th place in a ranking
    of competitiveness compiled by the World Economic Forum. No other major economy
    in Europe has such a dismal record.

    Don’t expect it to get better anytime soon. “Problems of specialization and
    necessary restructuring cannot be postponed indefinitely and regular
    devaluations are not a solution, either,” said Olivier Gasnier, an economist at
    Societe Generale SA in Paris, in an e-mailed response to questions.

    Tax Cuts

    “One can probably argue that it would be helpful today, given the extent of
    difficulties faced by exporters, but it will not be a durable solution.”

    For the early part of this decade, Italy seemed to be in the same boat as
    Germany and France, which have also been suffering. Yet as those two countries
    stage modest recoveries, Italy’s woeful underperformance looks even more stark.

    Why is it so bad? “There is a lot of discussion about demand management and
    tax cuts,” said Vincenzo Guzzo, an economist at Morgan Stanley in London, in a
    telephone interview. “Tax cuts would be a good thing, but really it is more of
    a disease of the supply side. It is a structural problem.”

    Italy specialized too much in low-growth traditional consumer and capital
    goods, while slipping behind in areas such as electronics, chemicals and

    That has made Italy sensitive to exchange rates, and it has suffered as the
    euro has jumped in value against the dollar.

    Budget Deficit

    Big companies such as carmaker Fiat SpA have been cutting production and
    firing workers. Yet the bulk of the Italian economy consists of small
    enterprises, which have found it hard to reorganize and are now getting squeezed
    out of the market.

    The result? An economy that is stuck in a cycle of decline. The government
    has tried tax cuts, with little success, and now faces a rapid decline in its
    own finances. The budget deficit may reach 5.7 percent of GDP in 2006, Societe
    Generale said in a note to investors last week, citing Milan-based institute
    Richerche per l’Economia e la Finanza. That rules out further tax cuts.

    In the old days, the fix would have been obvious: devalue the lira. With the
    euro, that isn’t possible.

    It turns out that a weak currency wasn’t an obstacle to Italian success. It
    was one of the foundations of the Italian economic model.

    The lira was always inflationary and prone to devaluation. Yet in that
    currency’s final years, Italy was a relatively successful economy that was
    growing as fast as its main rivals.

    `Constant Devaluation’

    “In the past, the Italian economy relied on the oxygen of constant
    devaluation,” Guzzo said. “Now it needs to look at structural solutions.”

    Because the euro is weighing on the Italian economy, the lira is now viewed
    as part of a golden age.

    Nobody is preparing to abandon the euro right now. In a television interview
    this month, Italian Prime Minister Silvio Berlusconi ruled out a return to the
    old currency. Still, if such an action were impossible, you wouldn’t need to
    rule it out. When politicians deny something, it is at least a topic of

    Could it happen?

    There are few technical obstacles to getting out of the euro. Yet only an
    Italian leader of impeccably pro-European credentials could do that. Funnily
    enough, the most likely person to become Italy’s next prime minister is just
    such a man. Romano Prodi, the former president of the European Commission, led
    Berlusconi in an April poll by SWG Srl, with 61 percent support. Nobody could
    accuse Prodi of wanting to undermine the European Union.

    Italy’s economic woes will trigger a departure from the euro area? It’s a
    long shot, though it may be worth a bet.