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Great Graphic: Italy-It is Not Just about Legacy

Summary:
A little while back I was part of a small exchange of views on twitter. It was about Italy. I was arguing against a claim that Italy’s woes are all about its past fiscal excesses. It is not just about about Italy’s legacy. It is true that Italy runs a primary budget surplus. The primary budget surplus has averaged in excess of  2% for nearly two decades. Over this period, Italy debt has soared. I took exception with a reporter claiming that Italy is among the most fiscally sound countries in Europe. The fiscal condition of a country is not just about its budget balance (flow) but also its debt (stock). It debt is not simply a legacy of past fiscal profligacy. The debt burden has increased because Italy is unable to

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A little while back I was part of a small exchange of views on twitter. It was about Italy. I was arguing against a claim that Italy’s woes are all about its past fiscal excesses. It is not just about about Italy’s legacy.

It is true that Italy runs a primary budget surplus. The primary budget surplus has averaged in excess of  2% for nearly two decades. Over this period, Italy debt has soared. I took exception with a reporter claiming that Italy is among the most fiscally sound countries in Europe. The fiscal condition of a country is not just about its budget balance (flow) but also its debt (stock).

It debt is not simply a legacy of past fiscal profligacy. The debt burden has increased because Italy is unable to grow faster than its interest rates. The Italian economy has expanded by an average of 0.6% in the 2014-2016 period. Over the past 17 years it has averaged 0.3% growth (since birth of EMU). It averaged 2.1% growth in the previous 17 years.

This Great Graphic comes from the IMF. It shows that real wage growth in the four largest member of EMU. Italy (red line) is the obvious outlier. It moved in tandem with Germany (black line) until around 2007. The timing of the break down suggests that it is not a function of EMU or Italy’s pass fiscal excesses. The IMF warns that it could take Italy another decade for its average take home pay to recoup the ground that has been lost since 2007.

Global Financial Crisis, 1995 - 2016

Great Graphic: Italy-It is Not Just about Legacy

Italy (red line) is the obvious outlier. It moved in tandem with Germany (black line) until around 2007. - Click to enlarge

Part for the issue, according to the IMF, is that Italian wages have grown faster than productivity for the past two decades. That is what this second chart shows–unit labor costs relative to Germany (100). The red line shows that in terms of labor, a unit of output in Italy’s factories is considerably higher than the other major European countries. In turn, the IMF argues this adversely impacts, investment, employment, and growth.

The IMF argues that Italian wages should be tied to productivity at the firm level rather than on the national level. The IMF estimates that this would boost employment by 4%, as well as boost other macro economic performance measures. Of course, the IMF has other reform proposals in the area of government spending and taxation.

A full three-quarters of Italy’s revenues go to wages, pensions, health care, and debt servicing. It has little room to finance public investment. The traditional approach has focused on Italy’s debt burden and the NPLs at banks. This is the creditor’s narrative. The response is not to dismiss Italy’s problems as having been caused in the past, but the debtor’s narrative is to boost growth. The failure of Italy to grow is not simply the austerity (primary budget surplus) but its willingness not to challenge rent seeking behavior by the private as well as the public sectors.

High Unit Labor Cost, 1999 - 2016

Great Graphic: Italy-It is Not Just about Legacy

- Click to enlarge




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Marc Chandler
Marc Chandler is Global Head of Currency Strategy of Brown Brothers Harriman (BBH). Previously he was the Chief Currency Strategist for HSBC Bank USA and Mellon Bank. He has been covering the global capital markets in one fashion or another for 25 years, working at economic consulting firms and global investment banks. A prolific writer and speaker he appears regularly on CNBC and has spoken for the Foreign Policy Association. In addition to being quoted in the financial press daily, Chandler has been published in the Financial Times, Foreign Affairs, and the Washington Post. BBH provides specialist services and innovative solutions to many Swiss asset managers that include a global custody network of close to 100 markets, accounting, administration, securities lending, foreign exchange, cash management and brokerage services. Feel free to contact the Zurich office of BBH

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