Italy’s paradox: Prodi coalition too fragile to duck reform

Not least among the major challenges faced by Romano Prodi's government is that of restoring the competitiveness of the Italian economy, which is currently at a major crossroads. One turning could put Italy back on a sound growth path after years of stagnation, the other would be less painful but would amount to an acceptance by Italians of their slow but inevitable economic decline.

Italy’s economic problems are far more serious than those of other major European countries like France and Germany. The causes have long been debated, but fall into two broad categories. The first is Italy’s fragile industrial structure, which is based too heavily upon very small enterprises and medium/low-tech sectors that are fast becoming dangerously exposed to competition from emerging countries, especially China. The second concerns the so-called “negative externalities” of the economic system, meaning inadequate R&D, insufficient infrastructure and widespread inefficiency in the public sector. These problems are structural rather than cyclical and show that the main obstacles to restoring economic growth in Italy are on the supply side and can therefore only be overcome by radical reform.

The outgoing Berlusconi government had been returned to power in the 2001 general elections with a significant majority on the strength of promises that proved impracticable; it therefore achieved very little, and instead coasted along while leaving almost all the main economic problems unresolved.

The result is that there is now a long list of important reforms to be tackled, together with a growing budget deficit. It is up to the next government to bear down hard on public expenditure if a downgrading of Italy's sovereign ratings is to be avoided.

There is a fair degree of consensus on the content of the reform programme among the country’s major economic and industrial bodies, notably the Confindustria employer’s organisation. Business people are generally united on the need for greater competition, particularly in the service sector, but public opinion is less convinced. Italian citizens are still unaware of the seriousness of the current difficulties, thanks in part to the Berlusconi government’s strong denials of an economic crisis.

The upshot is that the reform programme now broadly accepted on paper by most experts seems almost impossible to implement politically. Ranged against it is a loose coalition of interest groups and professional bodies that together are strong enough to defy the structurally weak political parties that make up the Prodi government.

Its extremely narrow election victory further confirmed the sceptics’ belief that reforming the Italian economy will be extremely difficult. The heterogeneity of the centre-left coalition parties threatens the government’s solidity, and the coalition’s radical left is in any case openly hostile to the sort of stern policy measures needed to restore Italy’s competitiveness.

Yet it could be that the very fragility of Prodi’s coalition may become its main asset. Few centre-left leaders will want to take the risk of bringing down the government when they know that the likely effect will be to reopen the door to another Berlusconi government. That fear is giving rise to a revised assessment that although implementing a reform agenda will undoubtedly be difficult, it is not impossible.