Italy’s sinking economy and what it means for the EU

Banking & Finance
| The European | 15th August 2018
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Italy, the eighth largest economy in the world (US $ 2.18 trillion, source: World Economic Forum) and the third largest economy of EU seems to be on the brink of financial disaster which might lead to the collapse of its economy. Who will be accountable if this catastrophe happens? Banks, inflation, joblessness, unfavorable interest rates or maybe trade tariffs? The answer is NO on all counts. Italy has internal political issues that are conflicting with EU political and economical agenda. Let’s take a look at what is brewing in Italy.

The latest Italians polls took place in March 2018. The election resulted in formation of a coalition government; Five Star Movement alongside Lega. This new coalition government is euro-skeptic. Key ministerial posts were also awarded to like-minded candidates.

The elected government immediately started challenging the EU on issues such as debt and migration laws. They assigned partial blame to the common currency, the Euro (€) for Italy’s slowest economic growth in the 19-nation euro area and an unemployment rate that’s only recently dipped below 11%. The tone of the new Italian government raised concern in global business markets. There was fear in the market that Italy might opt to exit the single European currency model. The global opinion on future Italian politics and resulting economical impact became gloomy. The first few weeks of the new government proved to be volatile for international business markets.

One might argue that the Italians in past or in present might be discontented with EU. However, various polls conducted reflect that if a Brexit-style referendum is conducted, then Italians will prefer to stay with EU.

A broader view of Italian economy shows that the services sector accounts for almost three quarters of total GDP and employs around 65% of the country’s total employed residents. Within the service sector, the most important contributors are the wholesale, retail sales and transportation sectors. Industry accounts for a quarter of Italy’s total production and employs around 30% of the total workforce. Manufacturing is the most important sub-sector within the industry sector. The country’s manufacturing is specialised in high-quality goods and is mainly run by small- and medium-sized enterprises. Most of them are family-owned enterprises. Agriculture contributes to the remaining share of the total GDP and it employs around 4.0% of the total workforce (source: www.focus-economics.com). The fact that the manufacturing sector comprises of small & mid-sized industries, (most of them family owned) and the services sector being one of the major sources of employment, means that Italy’s third position in EU economy ranking is just a stature and does not represent any significant economic strength. Italy is not on the business side of the negotiating table.

The path adopted by the populist government in Italy is confrontational to EU policies. Preposterous demands have been made (€250 billion ($300 billion) write-off from the European Central Bank), measures that are against EU fiscal rules have been announced (guaranteed “citizen’s income” for the poor and scrapping pension reform that rose the retirement age), all done “while voicing optimism” that the Italian government does not plan to exit EU or ditch Euro.

Claus Vistesen, chief euro-zone economist at Pantheon Macroeconomics in Newcastle, England said: “What’s most worrying is that the Italian government still appears to be in a fighting mode. It seems to welcome a potential confrontation with the EU and markets over its budget, probably because it judges that it gains political capital at home by taking such a confrontational line. This is not good news for markets.”

Italy’s debt totals more than 130% of its gross domestic product. (source: Bloomberg) This week, Italy contacted the European Central Bank to discuss its continuing debt crisis.

The conflicting path adopted by Italy against the EU with mixed signals of both reconciliation and negotiation impacts confidence of global business markets. Economical turmoil of Greece is still fresh in the minds of market players. Though there is no comparison between the Italian and Greek economy, the rising debt of Italy instills a question of fear: “will the EU be able to bail out Italy if ever such time comes?”.

Perspective in light of the recent stand-off between US and Turkey:

The Turkish Lira nose-dived by imposition of “double tariff rates” on steel and aluminum by US administration. Subsequently, resentment voiced by President Trump over Turkey’s relationship with US added fuel to fire. The political crisis with Turkey and fall of the Turkish Lira affected international banks, one of them being Unicredit of Italy. (source: Rueters)

Italy is not in a position to handle any sort of political or economical dead-lock with its partners in EU. Any attempt to separate itself from EU or reject the Euro as a common currency will result in its economical collapse. One can only hope that better sense prevails and Italy remains attached to its political and economical shelter – the European Union.

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