Athens and Rome Expose Europe’s Greatest Faultlines
Italy has €200 billion in non-performing loans, plus another €150bn of troubled debt. It has no productivity growth for 15 years, through its own fault.
As one might expect under such conditions, prime minister Matteo Renzi has openly attacked the policies of the EU on numerous fronts including energy, Russia, fiscal deficits, and German dominance of the entire apparatus.
How much longer can this go on before a Eurosceptic opposition party gains control?
“Italy’s long-term sustainability in the eurozone is just as uncertain as that of Greece,” says Financial Times writer Wolfgang Münchau in his article Athens and Rome Expose Europe’s Greatest Faultlines.
How should we think about systemic risk in Europe today?
You can see the problem most clearly in Greece — a country battling both an economic meltdown and a refugee crisis — with not much help from the rest of the EU.
Greece may be the starkest example, but it is not the only country facing overlapping crises. It is not even the most important one facing this dilemma. That would be Italy. While Rome’s problems are different from those of Greece, the country’s long-term sustainability in the eurozone is just as uncertain, unless you believe that its economic performance will miraculously improve when there is no reason why it should.
Italy was overwhelmed by the increase of refugees from north Africa last year. On top of that it faces unresolved economic problems — no productivity growth for 15 years; a large stock of public sector debt that leaves the government with virtually no fiscal room for manoeuvre; and a banking system with €200bn in non-performing loans, plus another €150bn of debt classified as troubled. Then consider that its three main opposition parties have, at one time or another, all questioned the country’s membership of the eurozone.
Last week, the Italian government and the European Commission agreed a convoluted scheme to relieve the Italian banking system of some of these toxic assets. It uses all the dirty tricks of modern finance, including the infamous credit default swap, a financial product that mimics insurance against default on a bond, which was particularly popular during the pre-2007 credit bubble. These instruments allow investors to hedge against default risk. But more often than not, their true purpose is to conceal information, to fool investors, or to circumvent regulatory restrictions.
There are no such evil motivations behind this structure in the case of Italy, but the idea that the country’s solvency crisis could be fixed through financial trickery is, of course, absurd. For me the scheme is less a symbol of devious financial engineering, than a sign of desperation.
There are signs that Italy’s patience with the EU and Germany, in particular, is wearing thin. Matteo Renzi, prime minister, has been openly attacking the policies of the EU on energy, on Russia, on the fiscal deficits, as well as German dominance of the entire apparatus.
It is not the euro crisis alone that has brought Italy to the brink of questioning its position in the eurozone. It is a combination of many crises and is likely to gain more momentum from the Brexit debate.
Europe’s policy of muddling through, of doing the minimum required, and hoping to mop up the rubble later, might even have worked if the refugees had stayed at home. The EU’s mistake was not to have chosen a path that would lead to invariable ruin, but to render itself defenseless against the next unforeseen shock.
Excellent Synopsis
That’s an excellent synopsis, with a questionable conclusion. Italy has done virtually nothing to fix its productivity problems, its massive public bureaucracy, or its banking woes.
On the latter point, Italy cannot fix its banking problems because of EU rules. But if it could fix via the bad bank mechanism it wanted, it would have been at taxpayer bail-in expense.
Italian and German Taxpayers Will Foot the Cleanup Bill
One way or another, taxpayers will pay. When Italy has finally had enough with the Eurozone and returns to the Lira, Italian taxpayers will pay via inflation.
It won’t just be Italian taxpayers on the hook. German taxpayers (remaining Eurozone taxpayers in general), will get repaid in Lira for debts owed in Euros. Target2 imbalances ensure that result.
The final result will be a very destructive breakup of the eurozone. The only possible way to avoid that dire result would be for Germany to leave the Eurozone first.
Mike “Mish” Shedlock
Germany should leave the Euro and Merkel should be IMPEACHED asap … !!!
Nice to imagine, but not going to happen. No way.
And what’s going to happen to all the Euro denominated debt the German banks hold? This is the only thing holding the EU together.
A European finance minister once said that: “The Euro is a Darwinistic currency”.
A creature that just crawled out of a swamp ?
Respectfully disagree.
Italy will not leave the Euro until the ECB stops subsidizing daily living expenses via ECB QE. The ECB will not stop subsidizing Italian expenses via the monetization of Italian deficits until ECB QE ends. ECB QE will not end until it succeeds in creating inflation (never) or the Euro economy falls over a cliff, and even then it will do the equivalent oi flapping its arms on the way down. If there is any life left in the ECB after the splat, it will monetize more Euro debt.
If the ECB even tries to stop, Italy will scream bloody murder, colorfully, and demand needed support for Italian initiatives.
The alternative is Italy living within its means or paying market rates for Italian sovereign debt. Not likely, ever. Then, Itally’s economy collapses and brings the Eurozone with it.
Then, the ECB will repair itself by draining customer deposits from the banking system to make itself whole again. Otherwise, member countries would have to recapitalize it out of their general funds.
The value of the Lira declined between 1943 and 1999 from 120/dollar to 1,700/dollar. The Italian government consistently defaulted its debt by devaluation and inflation. Italian culture and ethics have not changed with adoption of the Euro. Expect the Italian government to default on all government debt.
I expect the same outcome as you, except the economics of the ECB will create a multiplier effect that ruins the entire Eutrozone in the process. Technically speaking, they are in the arm flapping part now.
Nothing is going to change or work until we get an integrated/integrative kind of monetary reform that wrests control of the money system from private finance whose monopolistic insistence on their loan only paradigm while innovation and AI are ever more rapidly destroying aggregate individual income. An integrative reform could accomplish BOTH a roaring and yet humane profit making system AND price deflation.
Politicians assume that nothing bad will happen since nothing really bad has happened yet. They can easily ignore bad things in the recent past because 1) that was somebody else who wasn’t as smart as the current bunch, 2) That was a while ago and not now, 3) something must eventually work out if enough things are tried, 4) Somebody else will be blamed for anything that goes wrong 5) Just in case, get some cash out of it asap.
BTW, this explains Trump’s success.
No reforms will happen until the debt cycle explodes in a bad way. This will not happen soon, unfortunately, since the world’s leaders are actively kicking the can down the road as aggressively as they can. They will be gone and they will regard themselves as unsung heroes of the crisis, as opposed to the cause. Look at Greenspan and Bernanke as examples. Draghi will sell himself the same.
The only country I can forgive is China, since the alternative is over a billion angry former peasants who never have in history experienced freedom and would otherwise be forced to experiment with all it offers if they revolt. China has my permission to do whatever it needs to keep the plate spinning another day.
In the West It is not going to be possible to muddle through without war in an era of modern weaponry. We must stand up on our own hind legs and demand a workable and ethical economy and money system that accounts for both the reality of inherent cost inflation and the increasingly disruptive forces of innovation and AI. Objectivity and observation must replace orthodoxy. Otherwise…you better dig a deep hole and barricade yourself in.
Before the EU Italy was forming new governments almost every year so why be surprised when they want to do the same thing again.
I do not think Italy will leave the EU and go back to the Lira. Germany is making out like a fat cat with the Euro. If Germany used the DM still, would they be in the fine fiscal shape they are in now, if they had the most expensive currency in Europe? I think not.
This financial crisis in Europe will not go away anytime soon. They are trying to move to a fiscal and federal union. This crisis helps the politicians promising everything would be solved if countries would just sign over their sovereignty. Get your money for nothing and your handouts for free, for most immigrants. The influx of immigrants and Merkel’s edicts telling countries of the EU what they must do for the immigrants may well be the undoing of the EU.
Hopefully the citizens of Europe are getting the drift of what it would be like under a centralized government.