Who should be most worried about the Italian election result

It is fitting that it is an election which has threatened to send Italy (and perhaps even the broader euro project) back into financial chaos. Not bad economic news; not a credit rating agency downgrade:  politics, pure and simple.

After all, Italy’s role in the euro crisis has always been rather more political than economic. It’s an important distinction: while many try to lump Rome in with Athens and Madrid as the key epicentres of the crisis, Italy doesn’t suffer from quite the same problems as its Mediterranean counterparts.

Yes it’s true Italy has an enormous national debt: even before the crisis, back in 2006, Italian net debt was about 90%, while most euro members were comfortably below 60% (Spain was a mere 30%). It’s true that it is now over 100% and rising, which makes the UK look almost virtuous.

However, Italy has had a large national debt for years, and hasn’t had an enormous problem paying it. Indeed, unlike most European countries Italy has never defaulted on its debt – despite all manner of dysfunctional governments since the era of Garibaldi.

One of the reasons the country has managed this is that its large governmental debt has been complemented by a relatively low level of debt in the private sector – households and businesses. Italy, it might surprise you to hear, actually has the least-indebted households in the developed world (that’s household debt as a percentage of disposable income), as this chart from the Bank of England, based on OECD figures, shows.


The problem at the heart of the euro crisis (and, for that matter, Britain’s crisis) is when a large budget deficit comes alongside a heavily-indebted private sector. That toxic combination means that not only is the country’s government desperate to sell off new bonds and finance its deficit, it cannot fall back on its own citizens to buy them.

Over time, countries with these twin deficits (budget and current account) pile up debt upon debt, borrowed from other countries, until they end up with a large and intractable reliance on foreign creditors. You can see this by examining their International Investment Position – if anything the most reliable measure of vulnerability to a Greece-style crisis where investors stop buying your debt.


As you can see, there’s no doubt Portugal, Spain and Ireland have a problem – they have very large international liabilities built up over many years. Germany has a positive position, reflecting all its amassed savings. But Italy, far from being with the other euro problem nations, actually has only a slightly negative IIP.

I can’t emphasise how much this matters. It means Italy is far less vulnerable to a buyers’ strike in international capital markets, in the same way Greece, Spain, Portugal et al are.

None of this is to say the country doesn’t have big problems: there’s that large public debt load, which necessitates it selling a staggering number of new bonds every month. The country desperately needs to liberalise its labour market and cut back on business regulation and corruption. It’s been stuck in a deep recession and needs to find a way out. Unit labour costs are high and rising, meaning the country is becoming less, not more, competitive. Plus it faces a demographic timebomb in the coming decades.

The absence of a stable government (or one willing to do something about these problems) is clearly a cause for concern. Clearly it will make investors charge it more to borrow. But does the country face the kind of crisis Greece and Spain do? It shouldn’t do – at least not yet.

Of course, investors will take fright. Indeed, they already are, selling off Italian bonds, which in turn pushes up interest rates. But the point is that Italy has not yet passed the point of no return, building up twin deficits that in past episodes have almost always led to default. The same cannot be said of Spain, Portugal and Greece.

So, looking at the Italian election results I would still be more worried if I were in Madrid than if I were in Rome. The result is a reminder that there is still little public support for the rescue plans imposed by Brussels. And a reminder that, in the end, the silver bullet shot by Mario Draghi last summer – the European Central Bank’s Outright Monetary Transactions scheme – still relies on politicians being willing to pull the trigger on it.

So don’t mistake what’s going on now as an Italy-specific phenomenon. If indeed the euro crisis is back, we should be just as worried about Spain and Portugal as we are about Italy.