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Italy Cannot Change to Make Germany Happy

Italian Prime Minister Silvio Berlusconi reneged on his promise to the ECB to implement a full austerity budget. The Financial Times reports:

Silvio Berlusconi’s decision to backtrack on his emergency austerity budget and scrap a proposed tax on the wealthy has triggered a popular outcry while risking market confusion and fresh confrontation with the European Central Bank.

The move…came as Italy saw weaker than expected demand for its first auction of Treasury debt since the ECB stepped in earlier this this moth to buy Italian bonds. In return for bond purchases Rome agreed to undertake sweeping cuts and impose structural reforms amid sovereign debt concerns…

Mario Baldassarri, chairmen of the Senate’s Finance Commission, said scrapping the wealth tax and cuts to local authorities would take away €5bn in total from the austerity budget, offset by only around €500m raised from other small reforms.

With the Greek crisis far from over and important hurdles still ahead, Berlusconi can’t afford to alienate the ECB. This past month alone the ECB spent a joint €36 billion protecting Italian and Spanish bonds and containing their borrowing costs. In September Italy’s treasury will be put to further test when €60 billion in redemptions come due. With markets jittery, Italy is fast descending into deeper trouble with fewer friends.

Prime Minister Berlusconi is the most successful Italian politician since Benito Mussolini.  He has grabbed more power and held onto it longer than any other Italian political leader since World War Two.  Unfortunately, the nature of Berlusconi’s coalition makes it almost impossible for the government to take tough decisions.  Berslusconi can preside in Italy, but he can’t rule it.

The opposition is no better; the trade unions and other interest groups on the left are no more capable of agreeing on a substantial program of economic reform than the civil servants, regional leaders and business interests who support Berlusconi.

Italy is what it is, and its friends (Via Meadia, despite occasional frustration with Italian politics, is a great friend and a great fan) must accept that.  The eurozone’s basic problem boils down to how Italy and Germany can live under a currency union when neither country can adjust its economic culture to the needs of the other.  It seems more and more likely that they can’t.

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  • Kenny

    The best solution: Let Italy and Greece crash abd burn.

    Nobody should be expected to pay for their excess.

  • Luke Lea

    2008 all over again. Is Citibank still considered too big to fail?

    I just started rereading Keynes General Theory. The first 13 pages alone are full of revelations, and not the ones you read in the financial press either. But you have to approach it like a mathematical text: you don’t read, you memorize, building each concept on top of the ones before. And just like in math, if you miss even a single step in the argument you get lost completely.

    Keynes is a beautiful writer — literarilly the greatest economist who ever picked up a pen — and his powers of exposition are truly unique with nary an equation. But you have to read carefully with attention to definition.

    I’ve already learned — or in my case relearned — that the heart of his approach is to decrease real wages by increasing money wages, a tricky process of inflation based on the money illusion. He makes no bones about it. Two or three pages a day, I should be to the end in a few months.

    Minsky’s take on Keynes also deserves attention. Here again the strategy seems to use inflation as a tool, in his case to reduced indebtedness instead of or along with wages. Force the American worker to build up his savings the way we did with war bonds and artificially low bank interest rates on ordinary deposits during WWII.

    Not clear how to do that again. We need “the moral equivalent of war” William James talked about, bless his soul.

  • Jim.

    “Force the American worker to build up his savings the way we did with war bonds and artificially low bank interest rates on ordinary deposits during WWII. ”

    Right. How big a job is this?

    Well, the pre-WWII consumer debt-to-GDP ratio was 120% or so. The government debt-to-GDP ratio in the same period was 60%. Postwar, the numbers reversed — 120% government debt-to-GDP, and 60% consumer debt-to-GDP. Basically, Keynsian spending on the part of the government unwound consumer debts as the government took them on. At 60%, the economy took off like a shot.

    What situation are we in now?

    In 2007, government debt-to-GDP was 70% or so. Now, government debt-to-GDP is 100%. Consumer debt-to-GDP in the same period went from is… 300% to 270%. Again, consumer debt unwinds as government debt climbs.

    It is reasonable to conclude that if a Keynesian approach is going to work here, we’re going to have to get consumer debt back down to 70% or so of GDP, with the government directly (through TARP-like programs) or indirectly (through stimulus spending) assuming the rest.

    That probably means a national debt of 300% of GDP.

    Does anyone actually believe that that sort of debt is sustainable?

    Theoretically, you can get anything to fly, if you put a big enough engine on it. The problem is, some engines are impossible to build and operate, because they’re too big and heavy.

    Our problem is too big for Keynesianism to work. That tool will break, and hurt us, if we try to use it. We need to look elsewhere for solutions.

  • Jim.

    Also, re: Germany vs. southern Europe…

    Here’s how it’s worked in the past:

    Germans work hard and produce goods and services. Italians and Greeks enjoy those goods and services, by buying them on credit. So Germans don’t enjoy (a substantial fraction of) the goods and services they produce, Italians and Greeks do.

    This would be OK if the Germans were paid for their goods and services, so they could buy other goods and services that they did not produce for themselves. This is the basis of a division-of-labor economy.

    The problem is, we’ve gotten too clever by half, here. We say, “Germans have gotten rich, having the Greeks and Italians as customers, but the Greeks and Italians can’t pay their debts. Therefore, those lucky Germans need to cough up money to cover the southern debts.”

    (People who say that have forgotten a very simple economic truism — it’s not the money… it’s everything you can BUY with the money.)

    So basically, the Germans are expected to first hand the Italians and Greeks goods and services, and then they are also expected to hand the Italians and Greeks the money to buy those goods and services with. So, the Germans end up with less goods and services to enjoy for themselves, and also less money — more uncompensated work.

    Uncompensated work is SLAVERY. Taking money without providing goods and services in return is THEFT.

    We are all poorer when anyone is enslaved, because the leisure time of the slavemasters should rather be taken up by productive work. We are all poorer when anyone is robbed, because thieves destroy the motivation to create.

    Germany needs to cut Italy loose, and the Italians need to face the consequences of their actions so they can learn from them.

    They haven’t learned their lesson yet.

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