What went wrong?

Source: The Economist

In the night between the 8^th and 9^th December the European Union took a step closer towards becoming a fiscal union. Or rather a “fiscal compact”, as it has been called. Or perhaps a “stability pact on steroids” as Wolfgang Münchau referred to Angela Merkel’s proposals before the summit. However you decide to call the fledgling product of an intense night of fraught negotiations, there is no doubt that the 26 countries who signed up to it ceded a hefty chunk of their national sovereignty to the European machinery. Tax and spending plans will now be supervised at the European level and automatic sanctions will be triggered by profligate government spending.

In many ways this pact seeks to address the woeful flaws in the original Stability and Growth Pact forced on the recalcitrant European Community members by Germany in 1997. The Pact was a classic example of the “turkeys don’t vote for Christmas” dilemma. Under its original rules, when a country exceeded the government deficit limit of 3% of GDP or the debt-to-GDP ratio of 60%, the Council of Economic and Finance Ministers could issue a warning to the offender on recommendation of the Commission. Should the country not mend its spendthrift ways, a name and shame policy would ensue whereby the warning would become public. In the event of public opprobrium not being sufficient to cajole the country back into the straitjacket of fiscal rigour, the Council had the option of applying sanctions. Herein lies the snag: the countries applying the sanctions are the same ones that could find sanctions being applied to them at some point in the future should they deviate from the road of fiscal discipline! There was no incentive to set a precedent by applying the sanctions and every incentive to close an eye on excessive spending. Thus in 2003 the excessive deficit procedure (as this rather convoluted process is known) was not enforced against, lo and behold, France and Germany, the latter having preached the mantra of fiscal rectitude since its macroeconomic policy was blighted by the woeful Weimar Republic.

Source: BBC

But despite what many believe, the original flaws of the euro lie not in fiscal profligacy alone. In fact, Greece was arguably the only country blithely throwing money around in the run-up to the crisis; Spain actually had a budget surplus on the brink of the crisis. There was a debt problem, but this was in the private sector. Fuelled by the low interest rates afforded by the introduction of the euro the private sector, most notably companies and mortgage borrowers, embarked on an unprecedented spending spree. Thus whilst Spain's government may have succeeded in not breaching the 3% deficit limit, it oversaw an unrestrained debt-fuelled boom. What's more, southern europe's debt-hungry markets were happy to buy up Germany's exports, thus  fuelling Germany's surplus. And to further compound the problem,  Germany's excess savings, as a result of its citizens' frugality, were  siphoned off into spendthrift countries.

Source: BBC

 Another phenomenon we have witnessed since the introduction of the single currency has been an asymmetric shock within the eurozone. According to two policy experts “Germany’s wage trends have been themost important cause of the euro crisis. Those wage trends created anasymmetric shock that destabilized Europe”. Since the euro’s introduction Germany “ruthlessly held down wages” in an attempt to boost its competitiveness, aided by the artificially low exchange rate, whilst other members, most notably the Mediterranean countries, let their wages rise excessively. Germany thus boosted its competitiveness at the expense of its southern European neighbours, creating an asymmetric shock that fed into the current economic crisis. Whilst to claim that “Germany adopted a beggar-thy-neighbour export model” is a bit excessive, the competitiveness gap is certainly at the heart of the euro’s travails.

Source: BBC

You might be forgiven for thinking the euro’s design flaws ended here. Alas, policy-makers overlooked another crucial aspect of monetary unions, namely that of some sort of fiscal stabiliser. In most successful monetary unions, there is also a degree of fiscal union to allow for diverging economic conditions in its constituent regions. In other words, a region as diverse as Europe ought to have allowed for some sort of stabilisation mechanism to allow its members to deal with asymmetric shocks. This would have enabled them to adjust wages and prices without the grinding recession that they are witnessing now. Such “cushioning” mechanisms can be achieved through a partially centralised budget (not a fiscal superstate as some commentators would have you believe), where falling tax revenues in an adversely affected region will be compensated by rising revenues in a boom region. However, the enormous political implications of even a minimal budgetary centralisation make it an unfeasible option, at least for now.

Source BBC

What ought to have happened then was a closer coordination of macroeconomic policies, i.e. a sort of fiscal union which would have prevented the asymmetric shock and thus not placed the eurozone in such a precarious position regarding the current economic crisis. Furthermore, the only mechanism that policy-makers did not fudge, the single monetary policy, has been rendered essentially useless as an adjustment mechanism because of the vast differences in the economic conditions of member states. As Paul Krugman writes, the competitiveness divergence has to be reversed, and there are no two ways about it. Either prices rise in the north, or they fall in the south. Obviously the first option would require higher inflation than the fiscal hawks in Germany or in the European Central Bank are prepared to accept. Inflation is anathema, as such they have forced swingeing cuts on their southern neighbours which is merely compounding their recession. In attempting to balance between the different needs of the eurozone member states, the ECB has arguably interpreted its mandate of price stability too narrowly, placing the burden of adjustment entirely on southern Europe.

Source: Cartoon Stock

Southern Europe ought to have tackled the competitiveness gap long ago, when the piercing eye of the markets was not focused on its every move. Now that the eurozone finds itself in the eye of the storm it ought to abandon its fixation with price stability and recognise that with no room for fiscal manoeuvring because of ballooning deficits, indebted states cannot keep forcing austerity on their economies when global demand is sputtering. The long-term adjustment ought to be coupled with a short-term loosening of monetary policy, even if this leads to slightly higher inflation.

When the euro was conceived twelve years ago policy-makers thought, naively, that they could divorce monetary and fiscal policy. In their blind pursuit of the European unification dream they blithely waved away economic and political practicalities, crossed their fingers and hoped that members’ fiscal policies would somehow align themselves automatically. Events of the past year have made that hope look like a forlorn pipedream.

Enter the experts



Source: Financial Times



The euro crisis and the broader economic malaise swallowing the developed world have eroded people’s trust in the political establishment and rendered parties the subject of public opprobrium. Since both left and right parties are seen to be responsible for the mess in which we find ourselves now, neither would have commanded sufficient respect to lead us out of it. Therein lies the appeal of technocratic governments, whose knowledge and detachment from petty everyday politics has enabled them to sweep up popular approval from under the feet of the traditional parties, casting doubt on the traditional link between elections and legitimacy. However, not everyone has warmed to the idea of an unelected government and political commentators have decried the suspension of democracy. The Economist argues that technocrats may know exactly what sort of fiscal adjustment is necessary to extract a country from financial ruin, however will not be so adept at distributing the necessary economic pain without the political know-how of politicians. Furthermore, the fact that their legitimacy rests solely on respect and personal clout means that it will be harder for them to canvass support for painful economic measures without an electoral mandate. Normally the public would accept such measures because the legitimacy of the governing party would translate into legitimacy for its policies.

However, the fact that in Italy  53% of the population favours a technocratic government and are prepared to accept tough measures which would move Italy away from the brink of financial ruin, paints a different picture. The caretaker Prime Minister Mario Monti has made a considerable effort to include groups which have traditionally been marginalised and neglected on the political arena, namely women and young people. It can be said that the former Prime Minister Silvio Berlusconi made a valiant attempt to bring a hybrid of these two groups into the political system by stuffing his cabinet with young women, provided they were pretty of course. Unsurprisingly that failed to convince the Italian public of the seriousness of his intentions and did precious little to enhance his legitimacy. Furthermore, Monti’s technocratic government is not operating above democracy. It still had to win the confidence of parliament and will have to work hard to garner the support of elected politicians (who no doubt are relishing the opportunity to use unelected professors as scapegoats for their own failings) to implement its ambitious reform programme. The assumption that elections provide a sort of carte blanche in terms of policy legitimacy to politicians is overly simplistic; undoubtedly the extreme situation has played its part in demonising the whole political establishment, however one must not underestimate the clout that impartiality and expertise can wield, for the better. It was not by chance that Greek philosophers such as Aristotle feared the tyranny of democracy and sought to balance it with wise and dispassionate rulers.

Without entering into a philosophical debate about the merits of democracy there is another reason why technocratic governments ought to be seen as more than a mere stopgap in times of emergency. As the traditional mainstream political parties have been disparaged to such an extent as to leave a gaping political vacuum in Italy and elsewhere, extremist parties at both ends of the spectrum are eager to step in. History teaches us that extremist ideas have a particular appeal in times of hardship, and the rise of various extreme right and left parties throughout Europe is testament to this. In Greece the political extremes collectively muster more support than either of the two mainstream parties, and in Italy the Northern League is relishing the opportunity to return to the opposition ranks, presumably so that it may pander to the extremist streaks of its electorate. In contrast to the past, extremist parties in creditor and debtor nations alike, are railing against the EU in addition to their more traditional themes of immigration and globalisation. Given that Brussels is largely seen as the cause of many of Europe’s ills which are reverberating across the continent, this populist stance is one which is likely to pay hefty political dividends as growth falters and unemployment rises.

Mainstream political parties may be complacent about their superior knowledge of the meandering corridors of power and tortuous machinery of government, however they must not overestimate the legitimacy their electoral mandate confers upon them. If they adopt an overly obstructionist stance to a technocrat's reform programme they will further chip away at the infinitesimal amount of public respect they still hold, and pave the way for nefarious extremist ideas to take hold of disillusioned voters. 

Lost in a Roman wilderness of pain

Source: Reuters

So sang Jim Morrison in “The End”, the Doors song that Italian radio host Oscar Giannino has aptly been playing every morning on Radio 24 as his soundtrack to Silvio Berlusconi’s unbecoming fall. Yet even the advent of Super Mario and his technocratic government has not dissuaded him from this morning ritual for, as he rightly points out, Berlusconi’s fall was simply the first step in a long road to economic and political recovery.

The conflagration that is the euro crisis has already toppled the governments of Spain and Greece, so it came as no surprise that where underage prostitutes, bribery and tax evasion allegations had failed, widening bond spreads  and mounting interest rates succeeded. It paints a wretched picture of Italian politics.  Had it not been for the fickle markets and the burgeoning pressure from Brussels, Berlusconi might never have stepped down. His loss of majority in the Chamber of Deputies was blatantly the final straw, but had it not been for the festering euro crisis threatening to engulf Italy he probably would have taken advantage of the window his noncommittal resignation promise gave him and canvassed enough support to keep trundling gaily along as he has for the past eight and a half years. Berlusconi’s shameful relinquishing of power is reminiscent of Bettino Craxi’s indecorous fall when Romans threw coins at him to express their disgust at his venality. As Berlusconi slipped out of a side door of the President’s palace to avoid the crowd that had gathered outside, angry Italians burst into a performance of the Hallelujah chorus from Handel’s “Messiah”.

However, as The Economist points out, Berlusconi’s exit was in no way cathartic, because although the markets rallied temporarily straight after the announcement, the full extent of the power vacuum he left in his place slowly became visible as the mist cleared. That vacuum has for now been filled by Mario Monti and his caretaker government, which this week won confidence votes in both chambers. The main political parties at both ends of the spectrum have been vilified to such an extent that no political figure features in Monti’s cabinet, probably in an attempt to avoid compromising its authority which rests solely on its expertise, rather than direct democratic legitimacy. Democracy has a lot to answer for now, as it fell upon Gianluigi Buffon, the captain of the national football team, to launch an appeal to the discredited political class to be “cohesive, cultured and responsible”, adjectives which scarcely come close to describing the mass of squabbling buffoons that are supposed to be running a country. In any case, it is endearing to see that Berlusconi seems to have finally grasped the full extent of the quagmire in which Italy finds itself by announcing that the reform of the judiciary is paramount and that he would be ready to “pull the plug” on Monti. Priorities, as you might say.

Source: Corriere della Sera

 The task facing Monti is huge, and success is in no way guaranteed. His team of experts have been brought in to tackle some of Italy’s most deep-seated structural problems which have hindered growth and killed off its competitiveness. Shaking up the professional services, which have contributed to the creation of a two-tier market and crystallised their privileges to the detriment of the young, is fundamentally necessary to achieve Monti’s stated task of integrating women and young people in Italy’s staid labour force. It is also key to his policy of distributing the necessary economic pain equally so as to maintain popular legitimacy.  Fostering growth will also be paramount to bringing Italy on a stable path of debt reduction, and Monti has already indicated that he will probably not be introducing a “super-tax” targeting the rich as that would demonise wealth and deter entrepreneurs, badly needed in Italy. Crucially, it was also a measure which was anathema to Berlusconi’s People of Freedom (PdL) party. One of his most contentious tasks will be cut the infamous "costs of politics", as they are known in the Italian media. This ranges from a reduction in politicians' salaries, notoriously generous in Italy, to scrapping a whole bureaucratic layer, namely the provinces, which are sandwiched between the regions and municipalities and are widely seen as superfluous. Whilst most politicians pay lip service to the principle of cutting their benefits, when it comes to the substance their discourse suddenly becomes imbued with a hefty dose of victimisation. After all, many of them are leaving lucrative careers in law and business to enter the political arena, and it would simply be unacceptable for them to suffer a sharp decrease in salary because of this lofty decision. So much for being a politician to serve the country then.

The fact that the PdL still commands a majority in the Senate means Monti will have to prove adept at working his way through the convoluted party politics of Italy. The Northern League is adamantly against his technocratic government and is unlikely to set aside its populist tendencies for the country’s good; similarly Berlusconi has made clear that he will not retire to some quiet corner and write his memoirs. Reassuringly, the former prime minister has given Monti’s government the green light to proceed with structural reforms until 2013, when elections are due to be held, however the vicissitudes of Italian politics and the mercurial qualities of Berlusconi mean the future is murky at best. Oscar Giannino will probably be in no hurry to change his song given the uncertainty ahead.

The Plagues of Europe

Yesterday’s package was hailed as a panacea to Europe’s problems by politicians and markets alike. This is a puzzling and short sighted reaction because the package conspicuously fails to address the problems that lie at the heart of the euro. One could justify this by saying that the plan is primarily intended to placate restive markets as it is close to impossible to implement cross-cutting structural reforms which are likely to cause unrest when the biting eyes of the market are on your back. However there is little evidence that European policy-makers have adopted such a long-term view; the likelihood is that this is yet another fudging attempt to suppress the symptoms of the crisis whilst ignoring the roots of it. The problems with the euro are specific to the foundations of the eurozone but are also embedded in the contorted fabric of European integration.

The first of these problems concerns the structural differences between members of the ill-fated eurozone. These cleavages are so vast now that Jamie Dannhauser of Lombard Street Research says it is not clear to see how you could fix them. For a start there is the ubiquitous competitiveness problem. Mediterranean countries, especially Greece, went on a spending spree upon joining the euro which was fuelled by the low interest rates. They thus accumulated a healthy dollop of public debt and placidly let wages balloon which led to a sharp drop in competitiveness compared to their ascetic neighbour Germany. Yet it is easy to infer from this that southern Europe reaped all the (temporary) benefits of the euro whilst the disciplined north observed fiscal responsibility only to be presented with a hefty bill when the floor caved in. On the contrary, Germany has been able to foster its export-driven economy largely thanks to the weaker and thus more competitive exchange rate afforded it by sharing a currency with the reckless southerners. This is compounded by the reality that if Germany decided to leave the euro its economy would be hit hard by the ensuing appreciation of its new currency as exports would become less competitive.

The second problem is one of political accountability, or the lack thereof. As the BBC says, there is no one who can credibly claim to speak for Europe as a whole. The integration process so far has been run from the top by national governments, with the tacit consent of the people. Decisions have been taken by eurocrats haggling behind closed doors and then presenting them to voters as matters of competing national interests. National leaders have been adept at taking the credit when integration has generated benefits and quick at using it as a scapegoat for their own failings. Thus Italian politicians play the Brussels card when announcing another round of austerity measures, as if they were being imposed on the country on the whim of a distant eurocrat whilst the past decade of political prevarication and stagnation fades into insignificance. How convenient. Furthermore, the decision-making process in Brussels is painfully slow and ill-suited for financial crises; one cannot hope to assuage the markets’ jitters when 17 national leaders have to agree on a solution and then present it for ratification in 17 different parliaments. The obvious solution to the lack of political efficiency is for the EU’s executive arm, the Commission, to take the lead as its equivalent would do on the national level. However, this merely brings us to the next wall, namely a lack of democratic accountability. If Jose Manuel Barroso were to take a much more prominent role in solving Europe’s problems, he would encounter the wrath of all those within the public who consider the idea of a political appointee dictating policy anathema. Again, the obvious solution to this conundrum is to make him an elected leader, but this raises the spectre of a European superstate which is an equally abhorrent idea for many.

The third, and perhaps most intractable problem, is that of growth. Italy has been growing sluggishly for over 10 years and since the 2008 crisis growth in the rest of the eurozone has ratcheted along at a similar pace. Manufacturing output in the eurozone fell at its fastest pace in two years in September whilst Germany’s economy grew by just 0.1% in the second quarter of this year. More importantly, if the heavily indebted countries like Greece fail to foster growth they stand close to no chance of extracting themselves from the current quagmire. As Stephanie Flanders has said on the BBC, “we might get a ‘deal’ to save the Euro on Wednesday, but it does not look as though we will get a deal consistent with reasonable economic growth”. European leaders have instead focused zealously on austerity to cut deficits and debt which is showing few tangible results save for a conspicuous lack of growth. As tax receipts dwindle due to plunging profits and unemployment rises, governments are forced to borrow more to repay previous debts and thus find themselves back at square one. Moreover, Alen Mattich argues that the growth problems afflicting the eurozone’s periphery are so politically, culturally and legally entrenched that the solution does not lie in buying a few months’ respite from the fickle markets. He says that even with a 60% haircut on Greek debt, Greece would have to endure a semi permanent situation of austerity and recession, something which would be unpalatable to the population. Daniel Ben-Ami argues that fiscal deficits are merely symptoms of an underlying economic weakness rather than its cause, namely a low growth economy. It thus follows that fervently tackling deficits will not solve the eurozone’s economic problems but simply postpone the next economic crisis, which is exactly what has happened hitherto.

Another oft-ignored issue is the interconnectedness of the eurozone economies. It is apparent that Germany is convinced that Greece can slash its debt and return to growth without a currency depreciation (out of the question for obvious reasons). For this to happen Greece’s domestic prices and wages must fall sharply (which is already happening thanks to a hefty dollop of austerity) so as to become more competitive and its net exports must increase with respect to domestic consumption (the icky bit). This entails an increase in external demand, a luxury that Greece unfortunately does not have. Germany’s finance minister Wolfgang Schauble seems to think there is no symmetry between debtors and creditors so all this is perfectly feasible without Germany’s current account surplus having to fall. Whilst the rest of the eurozone was busy indebting itself by buying Germany’s exports (almost half of which go to the eurozone, incidentally), Germans were saving and running up a huge trade surplus at the expense of their neighbours.

The Economist points out that in a single currency zone habitual surplus countries tend to be matched by habitual deficit ones. In the eurozone sharp differences in labour productivity and fiscal policy flexibility led to the creation of a two-tier monetary union with a core of net exporters and a periphery  with constant trade deficits; both layers fed off each other in a relationship that was mutually beneficial. It would be crass to argue that Germany is responsible for the current mess in which the periphery finds itself, but it would be equally obtuse to depict the Germans as the virtuous victims bailing out the venal spendthrift countries.

It is a political and economic conundrum that no leader would ever want to have to face. Mattich is discerning in describing the euro as a “political enterprise that keeps stumbling over economic fundamentals”; policy-makers naively believed at the inception of the single currency that they could achieve monetary union without investing the necessary political capital, however the flawed economics have now caught up with them. Ultimately, the eurozone’s woes stem from a common illness that has afflicted much of the developed world, namely a lethargic growth that has been countered primarily by high state spending. To depict the scenario facing European policy-makers as a two-sided coin with disintegration of the euro on one side and the creation of a European superstate on the other is to ignore the problem of sluggish growth. More political integration will not automatically engender growth, but rather a string of further all-nighters for our tired politicians.

The Euro: What to Do?

Yet another summit, yet another vague plan. France’s finance minister Francois Baroin said the EU summit due to be held later this month will agree “decisive” measures to tackle the crisis that is engulfing the euro zone. “Decisive” however, does not seem like the right word to use after European politicians delayed the disbursement of the next €8bn tranche of the rescue package for Greece until November, thereby disseminating even more uncertainty in the markets. Furthermore, all the public talk about a possible further restructuring of Greek debt has done precious little to soothe investors’ frazzled nerves.

The decision to postpone the next disbursement of money is the least of problems however, and was probably taken in an attempt to push Athens into further reforms as there are no big bond payments due in the next weeks. The medium and long-term decisions are the ones that European leaders are proving unbelievably loath to take, such as agreeing on a partial write-down of Greece’s debts, recapitalising European banks and bolstering the European Financial Stability Facility (EFSF). Yet everyone seems in agreement that the more European leaders prevaricate, the more entrenched and harder to resolve the crisis becomes.

Most experts agree that some kind of haircut on Greek bonds is necessary, as long as it is combined with bank recapitalisation and a significant increase in the size of the EFSF. In July, European leaders had suggested a voluntary debt restructuring on the part of private banks coupled with fresh inflows of official money, but both The Economist and Martin Wolf from the Financial Times argue that the deal fell short of helping Greece whilst providing excessive relief to the banks. Raoul Ruparel of Open Europe, a think tank, claims that around 50% of Greek debt ought to be restructured and that European banks ought to be able to weather the ensuing storm thanks to a recapitalisation program through the EFSF. However, the European Central Bank (ECB) has long been adamantly opposed to any form of write-down which also raises implications for how exactly the EFSF would be able to build a firewall around endangered economies Italy and Spain without ECB funding. Gavyn Davies, writing on the Financial Times, explains that in order for Greece to reach an ambitious debt target of 80% of GDP by 2016, the rescue package would have to amount to €200bn. A 50% haircut on Greek debt that is held in private hands and which currently amounts to €240bn would thus raise €120bn, which still leaves a hole of €80bn. Furthermore, it is highly unlikely that the 50% haircut could be implemented voluntarily, thus raising the spectre of a technical default which is anathema to the ECB.

A corollary of the debt write-down is the problem of banking liquidity (or lack of it). Martin Wolf explains that the debt overhang impairs both solvency and liquidity in the banking sector, and proposes financing through capital injections and central bank support as the solution. However, as Gavyn Davies rightly points out, the amount of recapitalisation needed depends on the size of the write-downs on Greek debt and on the market’s expectations of possible future write-downs on other sovereign debt because of a loss of confidence. This is why it is absolutely vital to protect Italy and Spain from being engulfed in the crisis by putting Europe’s banking sector on sound footing. George Magnus, a senior economic adviser at UBS Investment Bank, believes that the ECB ought to be prepared to stand by and buy any amount of Spanish and Italian bonds to prevent banking contagion.

Unfortunately, the need to build a firewall around Italy and Spain entails a bolstering of the EFSF, which at its current €440bn capacity, is insufficient to ring-fence the crisis. Policy-makers have been bending over backwards to get around the ECB’s unwillingness to buy struggling economies’ bonds and to lend to the EFSF, touting various ideas which involve borrowing from public institutions that already have a banking license and that therefore have access to ECB funding. Another option would be for the EFSF to guarantee the first 20% loss on any new bonds issued by ailing countries; it would be able to implement this without requiring money from the ECB but the prospect of a bank recapitalisation will sharply deplete its reserves rendering this harder. Gavyn Davies argues that the EFSF however could use its remaining capital, estimated at €200bn after various rescue packages and possible recapitalisation programmes, to insure about €1000bn bond purchases in Spain and Italy which would cover their bond issuances for the next three years. This would soothe markets’ nerves and more importantly, buy European leaders a window frame in which they could tackle the euro zone’s underlying problems, namely lack of competitiveness and growth in the periphery countries.

Fostering growth in Greece and its neighbours is a daunting task, to say the least. Yet without growth the debt burden will linger on, as Vicky Pryce, senior managing director of economics at FTI Consulting, has said. The fiscal austerity to which Europeans have been adhering so zealously is only one side of the coin and does not solve the structural problems that affect the Mediterranean countries. One need only to look at the ominous slashing of growth forecasts in the United Kingdom, which has embarked on an audacious deficit reduction programme, to see how austerity can tighten the tap of an economy reducing it to a mere trickle. Christopher Smallwood, writing for Lombard Street Research, claims that the Club Med will restore competitiveness by falling wages and mass layoffs, both of which are likely to have extremely painful repercussions. External financing may mitigate the shock but will also have the corollary effect of slowing down the adjustment process. Furthermore, Martin Wolf points out that if external deficits are to fall in Greece and its neighbours, then surpluses must fall in other countries, notably Germany. Yet discussion on this aspect has been conspicuously absent. The quagmire in which the euro zone finds itself then, is only the beginning of a very long and tortuous process to address the fundamental imbalances within it which were disastrously overlooked in its inception.

The Cavaliere's exploits - chapter 369

It's not often that one hears a Prime Minister claim his job is a part-time one, even less so because the activities that supposedly take precedence involve a large degree of whoremongering. Sadly though, what makes these allegations even more unpalatable is that they are attributed to the Prime Minister of a G7 country. 


Juicy though they may be, Berlusconi's sexual exploits are not Italy's main plague at the moment. The country has been garnering a lot of unfavourable press coverage this summer due to the festering euro crisis that seems on the verge of ballooning out of control. Last week Standard & Poor's chose Italy as its next victim for a debt downgrade because of the government's inability to respond decisively to the wildfire that is the euro zone. The grotesque spectacle that was the passing of a third emergency austerity budget in two months only serves to lend credibility to S&P's decision. The constant backtracking and watering down of the austerity measures by the government in a populist attempt to please voters and representatives of the special interests that hold Italy's economy hostage, are evidence that the political caste has lost touch with the electorate. Not suprisingly, Berlusconi's approval ratings have plummeted to below 25%.

Berlusconi has not only lost the confidence of the Italians however, but also of Confindustria, the employer's federation, whose boss Emma Marcegaglia has become a vocal critic of the government. She has doggedly attacked the latest austerity measures, pointing out that they patently fail to address Italy's long-term structural problems such as liberalising the job market, eliminating red tape for businesses and decreasing the state's monopolies. Il Sole 24 Ore, the business newspaper owned by Confindustria, urged Berlusconi to go and warned that Italy was well on its way to following Greece into bedlam, blaming “the fragility of its governing coalition, the embarrassing chain of scandals that directly affect the prime minister, his ministers and their immediate associates, [and a] persistent inability to take painful but necessary decisions.”

Furthermore the long chain of trials in which Berlusconi is a defendant on charges ranging from embezzlement to paying for an under-age prostitute make his position even more untenable. The opposition has long been calling for him to resign citing the ad personam laws his government has passed, which tend to reduce the statute of limitations, as evidence of his many conflicts of interest. On September 19th judges overseeing the case in which he is accused of bribing his former legal adviser David Mills, shortened the list of witnesses so as to increase the chances of evading the iniquitous statute of limitations that has always been Berlusconi's saving grace. Berlusconi's lawyers, however, are exceptionally adept at finding ways of eschewing a verdict or churning out another ad personam law aimed at reforming the judiciary (the only type of reform in which his government has been remarkably prolific). 


Berlusconi's legal troubles are not limited to the trials in which he is a defendant. In the past weeks allegations have been emerging that he was blackmailed by Giampaolo Tarantini, a businessman-turned-pimp from Bari, who is said to have provided him with numerous young women, including prostitutes, for his parties. The list of accusations runs from providing Tarantini with an official plane, to including the girlfriend of a gangster amongst his guests and arranging for Tarantini to discuss lucrative contracts with the bosses of Finmeccanica, a defence company partially owned by the state. To top it all off the intercepts between Berlusconi and Tarantini appear to include a slew of denigrating remarks about Angela Merkel; it is hardly the time to belittle Europe's main saviour.


Any other prime minister in a democracy would have resigned way back when if faced with such serious accusations. But Italy has long been bucking the trend and Berlusconi insists he will serve out the rest of his term to 2013, frantically waving the "mandate of the people" in support of this. It is too bad that the people seem to have changed their minds. 


However, as the Economist notes, removing Berlusconi would be no panacea. If he has been able to shy away from implementing the structural economic reforms that are indispensable for kick-starting Italy's competitiveness, it is largely because of the intransigence of the public sector, the trade unions and professional bodies as well as the tacit consent of the Italians.   The harsh truth remains that Italy is a democracy (albeit a very dysfunctional one) and that he was voted into office by the people. The implicit contract between the Italians and Berlusconi, whereby the latter would never "put his hands into the pockets of the Italians" and conveniently never tackled tax evasion with the zeal it requires in return for the support of the electorate, has only recently been broken thanks to the austerity measures which Berlusconi has grudgingly had to pass to appease the markets. 


But nothing has changed dramatically in Italy's economy to fully justify the market jitters; it is merely a case of the market losing confidence in Italy's debt, as opposed to a boom and bust in countries like Spain and Ireland. Italy's economy has been stagnating for almost 20 years and Berlusconi has been in power for the majority of the past decade. Italy's public debt which now stands at 120% of GDP has been steadily and very visibly growing for the past 20 years, but Berlusconi's inherent populism makes him loath to deliver bad news. This led to Berlusconi claiming back in 2008 that there was no crisis in Italy, and more recently his coalition partner Umberto Bossi advocating a fiscal reform (i.e. tax cuts) to re-kindle voter support. 


18 years ago, on the 30th April 1993, angry Roman citizens threw coins at Bettino Craxi, the Socialist Prime Minister, to express disgust at his venality. A similar display of public contempt has not been seen since and is a clear sign that Italians have lapsed into a moral apathy of which Berlusconi is only a symptom; it is time for the young, who are not a party to the implicit contract, to shake off their malaise and quit saying "but if not Berlusconi, then who?"