Italy is in trouble – again

Italy is back in recession, with the economy shrinking in both the first and second quarters of 2014. It marks Italy’s third recession since 2007, and “will have a profoundly demoralising effect on a nation that thought the worst was over”, says The Economist.

“It is tempting to think of the Old Testament idea of seven lean years following seven fat years,” says James Mackintosh in the Financial Times. But Italy didn’t have the fat years.

Its economy has barely grown for two decades and is currently the same size that it was 14 years ago. Without growth, Italy has no chance of shrinking its whopping debt pile, worth 133% of GDP, and will eventually go bust.

The key to improving growth in the long run is structural reform and spending discipline. “The required changes have been discussed for so long that they are now depressingly familiar”, says Neil Unmack on Breakingviews.

“Get real on spending [and] cut government waste, including pensions.” Taxes on labour are too high, while cutting red tape in the labour market would also encourage hiring.

Italy also needs to liberalise the services sector by exposing many cosseted professions to competition and making it easier to start a business. Spain has overhauled its economy, and has been rewarded by four quarters of growth, says Richard Barley in The Wall Street Journal. Italy “is suffering because it has only talked about reform”.

Prime Minister Matteo Renzi gambled that the economy would recover without reforms while he focused on political change, says The Economist. He is trying to reduce the Senate’s power to block legislation from the lower house of parliament, which should make government more stable. A deal now looks close. With a less chaotic backdrop – Italy’s government is its 65th since 1945 – business confidence should rise.

But for now, things are getting more complicated. The government budget had assumed growth in 2014. That now looks “as likely as a summer snowfall in Sicily”. More spending cuts look inevitable if the government wants to meet its eurozone budget deficit commitments without yet more tax rises.

But the danger is that spending cuts now, without economic reform, will reinforce the downward spiral. It may not be long before concerns over Italy’s solvency return to the markets.

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