Italy’s political turmoil has hit global financial markets this week and raised questions about the country’s future as a member of Europe’s shared currency, the euro.
Some in Italy and other countries in the 19-member currency union have complained about the euro, saying it has made life tougher economically.
Here is a quick look at the euro and why it is in the spotlight again.
Why is the euro an issue in Italy’s political crisis?
[READ] In this commentary, Daniel Gros argues that "the root causes of the current crisis in #Italy are domestic; little to do with fiscal rules or lack of risk sharing. This means it needs to be resolved domestically" https://t.co/M5q4uxUK1I â¦ pic.twitter.com/bBbsIDC2ZV— CEPS ThinkTank (@CEPS_thinktank) May 31, 2018
Italy’s economy has grown very little since it adopted the euro as a founding member in 1999. Some blame the euro rules that limit government spending and deficits, which can stimulate growth.
Many economists, however – a number of them Italian – say the country has failed to make its economy more competitive. It is held back by corruption, excessive bureaucracy and high labour costs.
That makes Italy an expensive place to locate a business and makes its exports less competitive.
Daniel Gros, head of the Centre for European Policy Studies, says Italy’s troubles are homemade but psychologically hard for some to accept.
He said that the “impact of corruption and pervasive conflicts of interest on growth, and economic performance in general, is diffuse and difficult to pinpoint”.
“It is thus understandable that the euro has become a scapegoat,” he said.
All that has been true for years. What has made the euro an issue this week?
Italy’s anti-establishment Five Star Movement and anti-immigration League party have each flirted with the idea of leaving the euro and regaining complete control over fiscal and monetary policy.
The two parties won enough votes on March 4 to form a government. But that stalled after President Sergio Mattarella rejected their proposal for an economy minister whose writings have entertained the idea of leaving the euro.
Mr Mattarella said that such a drastic idea needed to be debated openly during a campaign, not brought in through the back door.
His move helped put the euro front and centre, with the prospect that any new elections would be explicitly fought as a referendum on the euro.
Could Italy leave the euro?
Italy is not struggling because of the euro, but because of lack of structural reforms. Italy should do what France has started to do. Reforms, reforms, reforms, and Italy will be saved! #EPlenary 🇮🇹🇪🇺— Guy Verhofstadt (@guyverhofstadt) May 30, 2018
Yes, but it is considered unlikely.
For one, despite it all, many Italians do not want to. A poll from October 2017 showed 45% of Italians thought the euro was good for their country and 40% thought it was bad.
And the possible consequences of leaving are sobering. Investors, fearing their holdings of stocks or real estate might be switched into a new Italian currency that would be worth less, would sell, causing markets to plunge.
Italian companies could get into legal disputes with foreign suppliers about what currency to pay in. Bankruptcies and lawsuits would spread. Italian’s euro savings would be worth less. Growth would suffer.
If it is so unlikely, why did markets take fright this week?
The Italian Constitution clearly says âthe sovereignty belongs to the peopleâ, not to financial markets. Today #Mattarella is denying the result of free elections and is declaring that Italy is a colony of Germany.— Ignazio Corrao (@ignaziocorrao) May 27, 2018
Itâs a financial coup! Help us. Stand up for italian democracy!
The fear is that a government that runs bigger budget deficits and flouts EU rules, as the two populist parties suggested they would do, might scare off investors from lending the government money.
That would raise the cost Italy pays to borrow money from international investors. The main market reaction this week was a jump in Italian borrowing rates.
Extremely high borrowing costs could force Italy to default on its debt.
Another reason for concern is Italy’s size. It’s the third biggest eurozone economy, too big to fail and too big to bail, as the saying goes. The likelihood is small but the consequences would be large.
How would Italy leaving the euro affect people outside Italy?
Some experts say the eurozone would hold together but would suffer a huge blow in confidence.
A crisis in the 19-member eurozone – collectively the world’s second-largest economy after the United States – could lead to investors around the globe becoming more cautious, sending stocks and growth lower for an unknown period.
Is it just Italy that has questions about the euro?
Before the introduction of the euro, Italy was a formidable competitor for the German industry. Its world market share was at 6%. Today Italyâs market share has shrunk to half of that. The country is over-indebted. The youth unemployment rate is a scandal. #FutureofEurope— Hans-Olaf Henkel (@HansOlafHenkel) May 30, 2018
No. Even strong supporters of the euro say the currency’s set-up is faulty.
It lacks the usual ways for countries to adjust to financial difficulty, in that it has no central fiscal pot to even out recessions in individual countries.
Since countries no longer have a national currency, they also cannot let it devalue – a common safety valve in times of trouble. A weaker currency makes a country cheaper to invest in for foreigners.
Instead, Greece and other member countries that ran into trouble got bailout loans from other member countries, on condition they impose crushing budget austerity-slashing pensions and government salaries and raising taxes. That fuelled resentment against the euro and the EU.
Efforts to fix the euro include tougher banking rules to keep expensive bank bailouts from overwhelming a country financially.
There is now also a bailout fund to help members that run into trouble. But progress has stalled on other measures, such as a common budget.