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Italy back on leader's agenda - discussed in margins of today's EUCO. What's going on there is far more existential for future of EA & EU than #Brexit & is issue senior officials in Berlin, Bxl fret most about - as toxic combination of econ & pols leave no obv way forward. Thread
A debate is raging across EU over how to address Italy's lack of compliance with EU fiscal rules in 2018 (debt rising not falling; Govt also failed to deliver 0.3% structural adjustment - holding for economic cycle). Nominal deficit in 2020 also looks likely to exceed 3% 2/
This may seem like a technical, narrow set of issues - but they're not. This is, ultimately, about Italy's membership of EA and the stability of the entire Eurozone/EU. Indeed, it's about very basis of legal & economic co-operation that's implicitly embedded in EU's treaties 3/
As one senior official notes "Our entire legal and economic architecture rests on a co-operative approach. But an EDP with Rome would not result in co-operation—it could portend an escalating confrontation.” The EU-Italy dilemma has several dimensions 4/
Formal route to address Rome's deteriorating fiscal situation would be for @EU_Commission to recommend debt-based EDP next week & propose adjustment path. Member states would sign off at their meeting early July, then rubber stamp at ECOFIN. BUT - problem 1 for EU: once EDP is 5/
opened, it will likely prove impossible to close (for Rome to comply with EU debt rules, it would have to bring its structural deficit into balance or surplus (Italy’s structural deficit expected at 2.4% this year, so this implies an adjustment of 2.5-3% of GDP) 6/
So if EU opens an EDP now, @JunckerEU would essentially be handing the next Commission a problem that won’t be resolved for the entire duration of its mandate. Essentially a massive can of worms for next Commission. Problem 2: this would give @matteosalvinimi - demagogic leader
of League & Italy's Deputy PM (& soon to be PM) a perfect platform to bash Bxl & advance his agenda of undermining legitimacy of EU - its institutions/set up/decision-making processes - from within (note Salvini has blamed EU fiscal rules for starvation of millions of Italians) 8
Problem 3: if opening EDP precipitates a confrontation, it could also impact market confidence, rating downgrades. This could spiral quickly out of control. The last EZ market/confidence crisis was only halted after a deal was struck btwn Mario Draghi & Merkel. But Draghi's on 9/
his way out & will likely be replaced by a more conservative @ecb Pres. Merkel won't be around for much longer. Even though Jens Weidmann has confirmed his commitment to OMT, how likely is it a League-led Govt or League/5S Govt would adopt an ESM program & commit to fiscal & 10/
structural reforms - a pre-condition to unlock ECB support? Many senior officials suspect this is the exit "by accident" strategy Salvini favours - only over time once he's worn down public support for Euro area membership. Many, however, think Salvini would heel to market 11/
pressure as he did last time; there's no support for Euro exit with League's base or in the party, but the point is: it's not obvious what he/Govt would do. And as another senior official notes, the *fact* is: "on current policies, Italy is not compatible with the Euro." 12/
So given risks, there's lots of voices arguing against EDP. But there's also a recognition that Italy's political, economic and fiscal status quo is utterly unsustainable. Then there's the pure high politics. 1)@JunckerEU & @pierremoscovici would like to protect their legacies 13
A crisis with Rome would not be the way to go. 2) Several member states also want door kept open for dialogue. This is partly because many capitals are seeking Rome's support in race over top jobs & “Italy is trading off names against fiscal policy” especially as Rome will now be
underrepresented at EU level as Draghi & Mogherini leave. 3) France also does worry that it could be next country forced into a debt based EDP. For these reasons, it's possible Rome could avoid EDP ONLY if it commits ASAP to some fiscal tightening to comply with EU rules 15/
But how much would be enough? This is very unclear. Tougher member states would like full compliance with 2018 & 2019 (>1% of GDP!); with flexibility and fudges this could probably drop to 0.5% of GDP. But more hawkish states (led by Dutch) will probably want adjustment at 16/
higher end of spectrum. How can Govt reconcile that with commitments it has made domestically (eg Salvini's flat tax & cancelling hike in VAT?). Clearly @JunckerEU & PM Conte have a lot to discuss today. But as one official notes: "We are still far from where we need to be." 17/
If these informal discussions don't allow Rome to avoid EDP, an emerging compromise between doves & hawks on each side of the debate could be to put Italy into an EDP, but allow Rome more flexibility over its adjustment path - & how it ultimately seeks to comply with EU rules 18/
But given the intractable fiscal & economic situation, combined with the direction of Italian politics, make no mistake that the stage is set for at least a fight, & at some point - a crisis. And there's no obvious way to resolve it without some real damage being done first ENDS
