Does Italy need to be saved?

Today, the Italian prime minister won a key vote in parliament on the government’s budget, but only because the opposition abstained. He has now lost his majority and the opposition demanded his resignation.

Bailout fund

In 2010, EU leaders set up a bailout fund to deal with the debts of some of its members. The European Financial Stability Facility (EFSF) borrows funds from the markets by issuing bonds (IOUs), backed by guarantees from eurozone countries.

These guarantees were worth 440bn euros before the bailouts of Portugal and Ireland. There will be about 300bn euros left when Greece has received help.

On 27 October, there was an agreement to increase the fund to 1tr euros. Portugal, Ireland and Greece have much smaller economies than Italy, which is the third biggest in the eurozone.

Italian crisis

Mr Berlusconi’s premiership is on the brink because Italy, which has debts of 1.9tr euros and is having to borrow at interest rates that are unsustainable over the long term, is in crisis – its finances threatening the viability of the eurozone.

Many of his erstwhile supporters have lost faith in him, and the markets have concluded that he is a barrier to an economically stronger Italy. Rumours on Monday of his imminent departure, later denied by the prime minister, led to a market rally.

Mr Berlusconi argues that action is being taken to cut Italy’s debts, but the Open Europe (OE) think tank has calculated that the country could face an extra 28bn euros in interest payments over the next three years, “potentially wiping out almost half of the projected 60bn euro budget savings by 2014”.

OE says the government’s difficulties in having these savings approved by parliament and implemented “could easily cause Italy to miss its debt and deficit targets over the next few years”.

This would be compounded by the markets turning against Mr Berlusconi and lead to growing divisions between the EU, the IMF and the Italian government.

Limited resources

Raoul Ruparel, OE’s head of economic research, told Channel 4 News there was not enough money in the EFSF to bail out Italy, but relying on the eurozone was not the answer.

Putting up that level of guarantees is not feasible at the moment. Raoul Ruparel, Open Europe

“You have to consider the political implications of making money available at that level to the tune of 2tr euros. If you’re looking at how that can be done, you would need significant guarantees from AAA countries like Germany.

“Putting up that level of guarantees is not feasible at the moment. Even if countries put up this level of guarantees, they would probably have their credit ratings downgraded, so it’s not economically or politically feasible.”

Mr Ruparel said the bailout fund would always have limited resources, and “if you have a fund with a limit, then the markets may test it because they know there’s a limit there”.

France has been pressing for the European Central Bank to become involved, but Germany opposes this. The advantage of having the backing of a central bank was that the markets “don’t tend to test their financial capacity because if they intervene, it’s essentially unlimited”.

‘In Italy’s hands’

But Mr Ruparel said this was not the answer either. “It is still in Italy’s hands to solve the problem. It has to look at the lack of economic growth. It needs to reform the labour market. Long-term employed workers are protected, whereas young people find it hard to get jobs. It also has to look at political and institutional reform. They pay high taxes, but public services aren’t good.

People have completely lost patience with Berlusconi. Raoul Ruparel, Open Europe

“People have completely lost patience with Berlusconi. He has no credibility in enacting reforms. He’s the figurehead of all that is wrong with the political and economic approach over the past few years in Italy.”

Vanessa Rossi, an economics adviser at Oxford Analytica, does not believe Italy needs a bailout, as long as its public accounts are accurate – and disputes that Mr Berlusconi is his country’s biggest problem.

At the Cannes summit, Mr Berlusconi agreed to allow IMF inspectors to monitor its progress in implementing reforms. Ms Rossi told Channel 4 News what they find will will be crucial, particularly whether debt levels are really at 120 per cent of national output, as Rome claims.

‘Something nasty’

“If the IMF visits and turns up something nasty in the woodwork, that is going to be critical. If the figures are all kosher and it can come through a diffcult patch, that saves the day. If the debt level is much higher, then the markets will be suspicious that this, like Greece, is not payable.

“If you look at a number of things that have to happen, an IMF clean bill of health is the most important, then higher growth. Berlusconi is probably third or fourth on the list.”

The EFSF cannot gear itself up quickly enough. Vanessa Rossi, Oxford Analytica

If Italy’s debt problems were worse than expected, at more than 140 per cent of national output, it would need help from the IMF, rather than the European bailout fund. “The amount of money involved, because it’s a large country, means the EFSF cannot gear itself up quickly enough. It would agree up-front some kind of haircut (debt write-off), with the IMF giving assistance money.”

But Ms Rossi said as long as its accounts were accurate, Italy could afford the high interest payments on the money it is borrowing for the foreseeable future. “They can cope for a year with high interest rates as long as they come down. A short period of high interest rates doesn’t crucify them, as it did Greece. That simply isn’t true.”