The political landscape of Southern Europe has changed dramatically in the last week. On Wednesday, Greece’s Prime Minister George Papandreou called it a day. Three days later, his Italian counterpart, Silvio Berlusconi, too resigned. To many, this will be the start of a long road towards economic recovery in their countries and preventing the “contagion” from spreading to healthy euro zone economies.
This will not be easy and economic recovery will require much more than changing heads of government. In both cases, the debt levels are quite unsustainable for economies with the rate of growth that they have. In the Italian case, for example, growth collapsed and never recovered after 2007. In 2007, the Italian economy grew by 4.0%. In 2010, it grew by just 1.9%. The government’s revenue grew by 2.53% from 2006 to 2010. In contrast, during the same period, government debt ballooned by 16.3%. Clearly, this was an unsustainable situation.
It has been argued that imposing “austerity” will create more problems: there will be very little money left for investment and increasing growth. This is a weak argument.
Italian Premier Silvio Berlusconi leaves the Quirinale Presidential Palace after meeting Italian President Giorgio Napolitano, in Rome, on Saturday. Berlusconi resigned after the Parliament’s lower chamber passed European-demanded reforms, ending a 17-year political era. AP
In both the Greek and the Italian situations, weak growth and the structural impediments to improving growth performance—generous government spending leaving little for investment, high wages of the average worker—have for long denuded these economies of their ability to gain competitiveness. These are not new problems and have been around for many years. What has changed is the ability of these economies to weather shocks—it has worsened. Now there is no option in the short run but to impose austerity. If this is not done, the ability of these governments to borrow—even if only to repay their debt and interest—will be hit very hard. The sky-high Italian bond yields tell this very clearly.
The other part of the problem is European. The continent has to decide whether it wants to push ahead and forge a new continental identity. At the moment, it does not seem so. German reluctance to shoulder a greater financial burden is as much a sign of national concern as was reckless Greek spending. So far, European leaders have devoted little time to look at this problem, let alone think it through.
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