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Analysis
Fraught time for Italy budget

Fraught time for Italy budget

After confrontation, room for compromise

by Antonio Armellini in Rome

Mon 22 Oct 2018

Last week, the Italian government adopted its draft budget after a prolonged confrontation with Brussels. First reactions from the European Commission were predictably negative. The haggling over details has continued, with the Five Star Movement (M5S) denouncing a 'conspiracy' to extend considerably the range of provisions on tax amnesty.

The budget reflects a fragile compromise between the Italian government's two main partners and signals a temporary weakening of the influence of its 'third leg', acting as an unofficial backstop for President Sergio Mattarella.

Deputy Prime Minister Matteo Salvini's League electoral base is mainly in Italy's highly industrialised north. The party presses for lower taxes and greater leeway for business; hence the insistence on bureaucratic simplification, cutting the role of the state, a tax amnesty and a flat tax beginning with professionals and small business. The M5S's hand is strong mainly in the south, where the focus is on state handouts and a larger role for the public sector; hence the priority for a generalised 'citizens' income', which in the fantasy world of Deputy Prime Minister Luigi Di Maio will immediately 'eradicate poverty'. Both concur on a considerable loosening of the strings for public and private sector pensions.

Italy has brought together conflicting and partly incompatible priorities with limited resources by expanding its projected deficit to 2.4% of GDP. This is up from the 1.6% indicated by Economy Minister Giovanni Tria as the tripwire not to be crossed to bring down gradually the debt from over 130% of GDP. The disregard for Italy's international obligations has been widely criticised, but both Salvini and Di Maio have repeatedly expressed their determination not to budge.

In the meantime, the spread from the German Bund rapidly moved to more than 320 points from around 150. From the predictable opposition from the left-of-centre Democratic Party, many voices joined the chorus calling for a substantial reappraisal: in addition to the European Commission, the International Monetary Fund, the Organisation for Economic Co-operation and Development, the Italian statistical office and the parliament's budget oversight service, among others. 

The opening shots between the Commission and the Italian government have been more violent than the norm, and the usual letter seeking for clarification has arrived in Rome. However, the argument for introducing changes to budgetary austerity, which is eroding consensus for the EU in a growing number of its members, has some justification in principle and a level of support.

The mood in Brussels seems that of avoiding confrontation as far as possible and many see room for a possible compromise. But there are other considerations. The latest polls show that the League has overtaken M5S, which came out on top in the last elections and can count on a much higher proportion of members in both houses of parliament. This makes for instability, and the European elections in 2019 could be a time for reckoning. Salvini could be tempted to seize the favourable momentum and go for general elections in the spring, to gain the upper hand in Parliament and cash in on his impossible electoral promises, before reality kicks in and starts seriously denting his support.

A prolonged fight with the Commission, encouraging anti-European feelings and condoning talk of leaving the euro, could prove a useful electoral tool.
This could unleash a crisis which no claim that Italy is 'too big to fail' could effectively stem. One of the ironies of a government 'for the people and by the people' is that the reins of fiscal rectitude and coherent foreign policy are in the hands of two technocrats – Tria and Foreign Minister Enzo Moavero-Milanesi – who have never faced an election. Their insistence on maintaining constructive relations with the EU, and not exceeding red lines on the public deficit, has for the time being gone unheeded, but Mattarella would never acquiesce in action capable of jeopardising Italy's credibility in Europe, where he sees himself as the ultimate guarantor.

Italy's high level of private wealth should not be overlooked as a dampener of financial adventurism. Salvini's mention of a possible 'appeal to the people' to buy government bonds to shore up the economy sparked selling on the bond market. Italian public opinion, like in the UK, is ill-informed and confused; a recent poll showed that around 44% of Italians would vote in a referendum to leave the EU, but more than 63% of the same Italians said they would vote to retain the euro. In the days ahead, many variables can come into play. A compromise with Brussels should eventually emerge. But a question mark remains over the limits of Mattarella's persuasive powers over a government driven by motivations that are increasingly non-aligned with the rest of Europe.

Antonio Armellini was Italian Ambassador to the Conference on Security and Co-operation in Europe, Algeria, India and Nepal, and Permanent Representative to the OECD. He is a Member of the OMFIF Advisory Board, International Institute for Strategic Studies and Istituto Affari Internazionali.

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