Michael Spencer: Bet on Italy

In the case of Italy, although the reform agenda is still in its early stages, confidence in the integrity and capacity of government has led to more domestic and foreign investment

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Text | Michael Spencer

On September 18, I had the privilege of attending the national conference of the "Knights of Labor", the "Knights of Labor", the Federation of The Italian Business Elite, at which 25 entrepreneurs are recognized every year for their leadership, innovation and contribution to society. The meeting was filled with an atmosphere of optimism, but the timing of such optimism was indeed unusual. After all, the global economy is grappling not only to recover from the shock of the pandemic, but also to adapt to the new normal of climate issues, supply chain congestion and increased geopolitical tensions.

After more than 20 years of slow economic growth and below-potential performance, Italy's optimism is surprising. But two mutually reinforcing factors appear to be changing the rules of the game: a reliable and efficient government led by Prime Minister Mario Draghi, and the EU's renewed willingness to provide strong financial support for investment. The two are not unrelated. In a sustained and strong economic recovery, private sector investment is the most direct driver of economic growth and employment. But the public sector must create an enabling environment by acting as a reliable reformer and regulator, investing in key tangible and intangible assets.

There is confidence in the ability of the current Government of Italy to discharge those responsibilities. First of all, Draghi's past performance is revered. As President of the European Central Bank, he kept his commitment to advancing European integration and prosperity and was willing to act when needed. In addition, the ministers appointed by Draghi in his government were talented and experienced.

Despite the many advantages of the Italian government, it still faces strict fiscal constraints. As sovereign debt soars to 160 percent of GDP during the pandemic, governments will find it challenging to invest adequately in future growth. That is where the EU comes in. If COVID-19 is teaching the world a lesson, it's that no one is safe until everyone is safe. Similarly, if the rest of the EU struggles to finance investment and sustain growth, no part of the EU can sustain its economic potential.

Therefore, in 2020, the EU agreed to establish a 750 billion euro recovery fund to finance important areas such as human capital, research and development, digital transformation and clean energy transition. The Fund was able to play a real role not only because of its size, but also because its financing was conditional on a reliable national-level plan and because funding was phased to determine its effective implementation.

The conclusion of the recovery fund marks a new direction for the EU. Proposals for fiscal transfers met with backlash after the 2008 global financial crisis triggered a series of debt crises across Europe, when advocates of fiscal austerity prevailed. But this time there will be no fiscal austerity. Part of the reason for this discrepancy may be that COVID-19 has hit the global economy, while the debt crisis that followed the 2008 crisis has been blamed on individual countries' "fiscal irresponsibility." Whatever its motivations, the EU has suffered greatly from its post-2008 approach, which has seriously undermined cohesion and solidarity.

Today, things seem to be changing. In the case of Italy, although the reform agenda is still in its early stages, confidence in the integrity and capacity of government has led to more domestic and foreign investment. This confidence has also pushed the EU to provide more aggressive financial support, further boosting investor confidence.

Italy shows that people tend to think of expectations as a reflection of reality. Given that expectations drive investment decisions, expectations can also help shape reality. From an economic point of view, both are systemic: they are both the result and the source. To be sure, if expectations differ significantly from reality, the two will eventually be recalibrated. But optimism, combined with effective reforms, can support the transition from a low-growth model to a high-growth model. Similarly, pessimism undermines investment and growth. In terms of the way reality interacts with expectations, we can better understand the experience of many emerging economies in moving toward sustained high growth.

Those experiences also highlight a key factor in determining outcomes: leadership. A government's vision of improving economic performance and inspiring confidence in achieving that vision will greatly improve the chances of an economy moving from a non-growth balance to a sustained high-growth model. This may be the case in Italy right now, with financial support from Europe providing an additional boost.

Whether Italy has actually reached an economic turning point remains to be seen. The government still needs to implement a substantive investment and reform agenda, and many stumbling blocks may arise. But with the Draghi government seemingly relieved of the burden of low expectations and lack of confidence, Italy's economic outlook is better than before.

(The author is a 2001 Nobel Laureate in Economics, Professor Emeritus at Stanford University, And Senior Fellow at the Hoover Institution; Copyright: Project Syndicate, 2021; Editor: Yao Xu)