Wednesday, November 16, 2005

Between A Rock And A Hard Place

US Economist Arnold Harberger once asked what Thailand, the Dominican Republic, Zimbabwe, Greece, and Bolivia had in common that merited their being placed in the same growth regression analysis. I can't help having the same feeling about Germany, France, Italy and Spain. As I indicated in a post on A Few Euros More yesterday, its sometimes hard to see the common thread.

Be that as it may, this post is only about one of the 'big four': Italy. As I say in the Afem post, Italy is bucking the trend. Unfortunately it is bucking it in the wrong direction.

Growth in Italy in the third quarter actually decined from a 2.8% annualised rate to a 1.2% one. This suggests the Italian economy is losing steam not gaining it. Add to this two additional pieces of data.

Firstly inflation: Italy's EU-harmonised consumer price inflation was 2.6 percent year-on-year in October, actually increasing from September’s 2.2 percent rate. This put Italy again in sharp contrast with the picture in the two biggest Eurozone economies, Germany and France (Spanish inflation continued apace). German annual inflation was 2.4 percent in October (down 0.2 percent from September), while French inflation slowed to 2.0 percent (down 0.4 percent from September). This increase in inflation in an Italian economy which is slowing down is distinctly worrying, bevasue it seems to suggest that productivity may well still be in negative territory, and that the Italian economy is resisting the restructuring pressures in a way in which the German one, for example, didn't.

Secondly, Italy's balance of payments situation continued to deteriorate, and this despite the declining euro. Italy’s trade deficit increased to 2.15 billion euros. That was up from a revised 0.39 billion euros in August and suggests the depreciation of the euro this year has done little to boost export competitiveness. The widening of the trade balance in Septemberalso came despite a rise in the value of Italy’s exports to just under 26 billion euros (up from 19.43 billion in August), and thus logically it is the result of a sharp increase in imports, from just under 20 billion euros in August to over 28 billion in September. These results are probably way to early top see what the full impact of the euro devaluation will be, but stil they are hardly encouraging.

I emphasise all this, since we had some debate last week about how real the threat of a sovereign debt downgrade for Italy was in practice. Well, all I can say is that if these numbers continue like this, it is hard to see the Italian government risking deteriorating the situation even further by really implementing meaningful fiscal tightening, and if they don't introduce meaningful fiscal tightening it's hard to see how they can avoid further downgrades. As I said: between a rock and a hard place.

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