Italy, we have a problem.
Yes, we do. But mind you: we do not have a short-time problem. Mr Draghi and the ECB will take care of that. And, beware, we cant seriously think we will solve our problems with the so-called reforms: human capital, liberalization of professional services, privatizations of local public utilities, pension reforms. Yes these are usufel things to do but what pick-up will they give to our growth in the next 2-5 years? Zero. That is stuff whose fruits are for the next decade to enjoy. Come back in 2020.
But our 2 year spread on Germany tells a different story. It has hit a maximum yesterday, higher than the 10 year spread. We need growth, good growth, right now. The only way to get it?
Fiscal expansion through higher public purchase of goods and services. Fiscal restriction, the one asked by many (including the ECB) is crazy masochistic stuff. Fiscal expansion through lower taxes? Useless, everyone would save the added net income right now.
One question in your mind, I am sure. How do you finance fiscal expansion? Easy answer. By cutting waste. “You mean by cutting other expenditure? That is useless!” you might say. Think again. Bandiera, Prat and Valletti (2009) have shown that 2% of Italian GDP in public purchases is sheer waste due to corruption or incompetent procurement. Which means that that 2% is not expenditure but a mere transfer from taxpayers to firms, useless (damaging, actually) for growth. If you buy a PC at 1000 euro when you could have bought it for 600, well those 400 euro are a mere gift to the seller of PCs. if you cut nominal expenditure by 400 you still have purchased the PC, real expenditure does not go down one bit. But now you have 400 euro to be really spent on real stuff: school builldings, school material for pupils, highways (IT or cement made), hospitals, logistics, you name it…
So there you have it, a 2% increase in true public expenditure financed by cuts in fake expenditure really to be called transfers.
Aggregate demand would jump up, GDP too, within a short time. That would make both short-term policies (ECB support) and long-term reforms viable and credible to markets: spreads would collapse and there is your problem solved.
Is Europe willing to subscribe to a proposal of this kind? I doubt it. Nothing in the EC ad ECB posturing seems ready to show an understanding that only a fiscal stimulus can save the day for Italy (and, for that matter, across Europe).