The fiscal plans of the two Italian parties vying to form a government are “a recipe for a debt crisis,” but that is unlikely to prompt them to correct course before trouble starts, according to the economists Olivier Blanchard, Silvia Merler, and Jeromin Zettelmeyer in a much talked-about paper published last week. However, “Italexit” is unlikely, they concluded.
But in a follow-up interview, Italian-born Merler, an affiliate fellow at Bruegel, a Brussels-based think tank, notes that after the events of the last few days, the risk remains as high as ever.
Which way do you see the current situation evolving?
We have two scenarios now. Either a technocratic government that risks being criticized as something imposed by pro-euro forces, if not by Europe itself, and we will see the two [would-be coalition parties] keep pounding on whatever policy they implement; or the two agree to form a government to avoid elections. I cant see how they could propose [Paolo] Savona again, so the question would be whether their proposed finance minister is more acceptable to the president of the republic or whether we risk repeating the same chain of events.
Do you think there is a possibility that the two parties have been chastened by what happened in financial markets in the last few days and might be tempted to tone down their proposals?
Ive listened to [League leader Matteo] Salvinis statements in the last few days, and I have no impression that hes been chastened. He sounds pretty much like his usual self. And the League has risen in the polls, so there is no incentive for him to climb down. As for [5Stars Luigi] Di Maio, its not as clear: Hes gone from wanting to impeach the president one day to resuming talks about a government working with him the next.
Why would their program be so bad?
In our paper, we report that the cost of the two parties respective electoral promises — most notably, the Leagues flat tax and 5Stars guaranteed income — would cost between €109 billion and €126 billion, or 6 to 7 percent of GDP. Thats a lot … And next to that, the funding of the measures is fuzzy at best. The magnitude of the increase in the deficit implied by the combined measures will likely violate all EU and domestic fiscal rules and put debt on an unsustainable trajectory.
If the two parties dont water down their proposals, why then do you think Italexit is still unlikely?
First, the government could eventually blink. Default is not a weapon Italy can easily use against the outside world: Two-thirds of the sovereign debt is held by Italian nationals. Second, the budget will have to be approved by the two chambers of parliament, and in the senate, the two parties majority is slim. Finally, dont forget the two articles of the Italian constitution that enshrine the principles of a balanced budget and sustainable debt.
Do you think Europeans can or should do something — or say something — in the current context?
They should certainly abstain from pouring fuel on the fire as [Günther] Oettinger just did. These kind of statements reinforce the populist narrative that Italy is under attack. In general, any statement by a foreign politician risks being interpreted the wrong way or exploited, at this very delicate institutional juncture.
On substance, I dont think Europe should back down from reform proposals or suggestions, whether on the eurozone or else. Italy has legitimate concerns on some of the things being discussed, and its views should be heard in that context. But Italians should realize that the longer we remain without a credible government, the weaker that voice will be.
Is that mostly about the banking union?
The banking union has been heavily politicized in the Italian discourse, because of banks particular situation, due to their exposure to sovereign debt and also the fact that retail investors have bought some of their bonds. Single supervision has brought these issues under more scrutiny, and that is a positive thing for the resilience of the Italian banking system in the long term. But it has created a toxic political climate. Italy has a particular view on how these problems should be addressed, and that view should be part of the discussion. But the often-heard claim that banking union rules were somewhat “imposed” on Italy is completely misplaced.
Do you have the feeling that France and Germany have been too exclusive in their dialogue on reforming the eurozone, and that they should have paid more attention to Italy?
In general, I think these talks should be more geographically inclusive. Its a good way to make sure that progress rests on solid foundations, and it would weaken the populists claim that everything is imposed on Italy from “the outside.”
This interview was edited for length and clarity.