How the eurozone entered a new phase of economic crisis

Matteo Renzi's resignation reminds us that populism has financial consequences.

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What a difference four hours makes. At six in the evening last Sunday the champagne corks were popping in Brussels. Norbert Hofer, the candidate of the far-right Freiheitliche Partei Österreichs, had just conceded defeat in the Austrian presidential election. By ten o’clock, however, the bubbles were going flat. Exit polls in Italy showed that Prime Minister Matteo Renzi was going down to a heavy defeat in the referendum on constitutional change he had called and championed.

Together, these two results laid bare an important truth about the rise of populism in Europe and its relationship to its troubled economic model. In Austria, the theory that a revival of fascism is sweeping even the most prosperous parts of the European Union was stopped in its tracks. The Italian result showed that Europe’s challenges are both more banal and more exotic than the rise of another far-right bogeyman.

Economics – and, yes, the euro – is a large part of the story. Most of the developed economies have had a poor time of it since the financial crisis of 2008-2009. The United States economy, the best performer of the lot, is about 10 per cent larger than it was before the crash. The average for the advanced economies as a group is a bit lower, at 8 per cent. The economy of Italy, meanwhile, has shrunk over this period: its GDP is 8 per cent smaller today than it was at its peak in 2007.

A better indicator of actual material well-being is GDP per capita. By this measure, Italy today is worse off than it was not just in 2007, but in 1997. National output per head has stagnated for 20 years – an astonishing, almost unprecedented statistic.

No doubt you are wondering if this dismal record of relative decline has been driven by the outrageous profligacy of the government, as in Greece, or by a chronic failure to compete in foreign markets, as with Portugal. Not a bit of it. Within Europe, Italy has for years been a model of fiscal probity, with a smaller budget deficit than that of both France and Spain, and smaller still than that of the UK. As for competitiveness, many of Italy’s small and medium-sized companies remain the envy of the world, and the country has a €45bn trade surplus to prove it.

Why, then, is Italy such an economic basket case – with public debt at nearly 150 per cent of GDP and a banking system buckling under the weight of €360bn of bad loans?

The answer in both cases is that there are only two conventional ways of escaping a debt burden: growth or inflation. In Italy, the euro killed inflation and has not proved conducive to growth; as a result, its government accounts have remained mired in the public debts accumulated in the 1980s and 1990s. For the same reason, it has proved impossible to extricate Italy’s banks from the legacy of non-performing loans inherited from the double-dip recession of 2008-2009 and 2012-14.

The solution prescribed by Brussels over the past decade has been for the Italians to take the euro and its spending rules as given, and to rely on supply-side reforms for a revival. There would be no return to an inflationary model. Italy was to generate growth by becoming more German.

The theory was not without its merits. There is little doubt, for instance, that there were aspects of Italy’s labour laws that were in dire need of the reform Renzi introduced last year. Yet the focus on deregulation has not worked in practice. The fact is that the eurozone as currently constructed does not work for Europe’s fourth-largest economy. So either the eurozone will be fundamentally recast, or Italy will be forced to leave. That is the simple economic lesson of the referendum.

Yet ultimately it is not the economic, but the political implications of Renzi’s defeat that are likely to prove most momentous in the long term. For what Italy has consistently shown more vividly and earlier than anywhere else is the nature of the political revolution overtaking the developed West, a revolution either disturbing or exhilarating, depending on your perspective.

In the UK we only woke up to these changes with Brexit. In the US, it has taken the election of Donald Trump. In Italy, the transformation has been going on much longer, and its logic has been more thoroughly worked out.

The itch that Ukip and the Trumpists scratch is the idea that the mainstream left and right parties are two sides of the same establishment coin – allegedly representative of economic enlightenment and the ethical high ground, but in fact embodying a corrupt and cloying groupthink that stands for nothing more than the self-interest and power fantasies of the cosmopolitan elite.

For decades in Italy, this idea was not just a borderline conspiracy theory but an explicit political strategy – until the late 1980s. It even had a name – trasformismo – as well as the most famous of modern literary epigrams to sum it up: the aristocrat Tancredi’s advice, in The Leopard by Tomasi di Lampedusa, that: “If we want things to stay as they are, things will have to change.”

In the early 1990s, however, trasformismo collapsed. Before the nativism of Germany’s Alternative für Deutschland party, there was the nativism of Umberto Bossi’s Lega Nord. Before the transgressive tycoonery of Donald Trump, there was the transgressive tycoonery of Silvio Berlusconi.

Most prophetically of all, the pioneer of exposing and exploiting the obsolescence of the mainstream media was not Steve Bannon and Breitbart News, but Gianroberto Casaleggio, the internet entrepreneur who died in April. He turned Beppe Grillo from an amateur blogger into Brother Number One of the anarchic Five Star Movement. It is this anti-globalist group, which holds 17 of Italy’s 73 seats in the European Parliament, that led the No campaign to victory in the referendum that toppled Renzi.

When I was at school, we studied Rome to learn the origins of Europe’s present political culture. Today, we should be doing so to understand its future. 

Felix Martin is a macroeconomist, bond trader and the author of Money: the Unauthorised Biography

This article first appeared in the 08 December 2016 issue of the New Statesman, Brexit to Trump