Patience needed over Rome’s ESM bid

EU funding could open way to longer-term Italy recovery

The European Union has produced a strong common response to the coronavirus crisis. The name from the European Commission is promising – ‘Next Generation EU’. The overall €2.4tn in financial support is ambitious, even though it may be scaled back during forthcoming negotiations. And it’s on a grand perspective, aimed at reinforcing the Union over the ‘long durée’.

The Italian government under Prime Minister Giuseppe Conte can legitimately say that the EU has accepted all its proposals. So why is the government facing such a rough discussion on applying for funding for healthcare and related improvements from the European Stability Mechanism, the EU bail-out fund?

Conte cannot play his ESM cards too early for fear of destabilising his government. He needs patience from the other EU governments, led by Angela Merkel. If the EU, under Germany’s six-month presidency that started on 1 July, handles the negotiations well, then Italy will sign up to a multi-stage EU support programme. This will secure adequate short-term recovery from recession. In addition, it will put Italy on track towards its most pressing long-term goal – boosting private investment in propitious longer-term economic sectors to aid employment, boost productivity and help rebuild public finances.

Conte is dependent on a delicate balance between the dominant coalition party, Luigi Di Maio’s Five Star Movement (M5S), and the pro-European left-of-centre Democratic party. Conte wishes to see a breakthrough on the mooted €750bn recovery fund at the EU summit on 16-17 July, before launching a separate bid to apply for around €36bn of ESM funding. For many Italian politicians, the ESM is highly unpopular. It is a notorious symbol of the EU’s allegedly overweening power over debtors, a legacy from EU bail-outs for Greece in the 2012-18 debt stand-off.

The EU’s €2.4tn package comprises €1.1tn from the EU multiannual budget; €750bn from the recovery fund; €240bn from the ESM; €100bn from the SURE unemployment reinsurance scheme, and €200bn from the European Investment Bank’s funds for businesses. To these can be added €1.35tn in bond-buying from the European Central Bank’s pandemic emergency purchase programme.

The political force of the Commission’s plan rests on Franco-German agreement. The European parliament, traditionally more ‘generous’ than the Commission, and above all the Council, will give it plentiful support. A deal on the recovery fund will be closely tied up with negotiations on the bloc’s next seven-year budget. Leaders on 16-17 July will be devoting much attention on how to allocate recovery money raised on the capital markets. The plans face resistance from important net budget contributors — led by Denmark, Austria, the Netherlands and Sweden — opposing disbursement  of recovery money in grants rather than loans.

Merkel and the others must give Conte time to accommodate the views of 5SM. The grouping is beset by an internal struggle, between members who want to become a real political party and those who wish to keep its movement-like nature. The first are in favour of applying to the ESM; the second are against it. Probably the first category will gain the upper hand. But they need to mark a contrast from their Democratic party partners.

Ministers will have to disarm criticism from Matteo Salvini’s Lega, the principal opposition, campaigning against the ESM on the grounds that it involves conditions of the sort inflicted on Greece. In fact, European finance ministers decided in April that ESM disbursements, at a favourable near-zero interest rate, will come with minimal macroeconomic conditionality, although they will be earmarked for projects for post-crisis recovery.

Merkel needs recovery fund support at the EU summit. This would lead to the 27 EU states immediately starting parliamentary ratification.  If Merkel can win Conte’s trust, it will help him achieve a parliamentary majority for the ESM. Silvio Berlusconi’s opposition Forza Italia has announced it will vote in favour, giving Conte additional manoeuvring room.

An application by other countries such as Spain and Portugal would be helpful for Italy. Politically, it would make sense for Germany, even though the Germans don’t need the money. Yet this is ruled out by the constitutional rule that Germany can raise funds only at the lowest possible rate, from market borrowing, not via the ESM.

ESM borrowing for Italy would be just the beginning of a long trek to restore economic health. In a speech last month, Ignazio Visco, governor of the Banca d’Italia, underlined some advantages. ‘The real and financial wealth of households is high overall and their level of indebtedness among the lowest in the advanced countries, while those of firms are below the European average.’ In the private sector, debt amounts to 110% of GDP, lower than in Germany (114%) and half the level of France (215%) or the Netherlands (258%). The big challenge is to boost productivity, human capital and investment – requiring much more than expansionary monetary policy.

Raising growth potential, and achieving the broadest possible consensus, are crucial. As Visco said, the costs of structural changes are immediate, while the benefits develop only gradually. Italy could again fall behind a general European recovery. An ESM application would be one step towards ensuring that this does not happen.

Romano Prodi was President of the European Commission (1999-2004) and Italian Prime Minister  (1996-98 and 2006-08).

Edoardo Reviglio is a Member of the OMFIF Advisory Board.

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