Order 1286185: Italian Federalism

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ITALY OUT OF THE CRISIS: MORE CENTRALIZED OR FEDERATED? Giancarlo Pola

Centre international de formation européenne | « L'Europe en Formation »

2010/4 n° 358 | pages 91 à 109 ISSN 0014-2808

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Pour citer cet article : -------------------------------------------------------------------------------------------------------------------- Giancarlo Pola, « Italy Out of the Crisis: More Centralized or Federated? », L'Europe en Formation 2010/4 (n° 358), p. 91-109. DOI 10.3917/eufor.358.0091 --------------------------------------------------------------------------------------------------------------------

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L’Europe en formation nº 358 Hiver 2010 - Winter 2010

Italy Out of the Crisis: More Centralized or

Federated?

Giancarlo Pola

Professsor at the University of Ferrara.

1 - A Brief Summary of Italian ‘Fiscal Federalism’ (current and in the mak- ing)

A.– Th e current (still very centralistic) reality…

Th e current organization of Italy as a republic is the result of over 60 years of (very rarely constitutional, more often normal) administrative reforms and adjustments (Pola 2008). Th e following table describes one of the essential pa- rameters of such an evolution over the last two decades, i.e. the shares of public expenditure of the three levels of government (see Table 1).

It can be seen that in the decade 1995-2006, a moderate reallocation of roles in favour of the periphery did really take place (-6% for the State and +6% for subcentral entities), and it is reasonable to think that the trend has continued until now (2010). It should be considered, however, that the State’s overall share (54%) includes over 90% of defence expenditure (obvious), over 80% of welfare and other social expenditure (and this is less obvious in comparison with other really federal situations), over 60% of expenditure for education and industry, over 50% of expenditure for transport, over 40% of expenditure for roads and telecommunications, to between 10% and 25% of expenditure for the develop-

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Giancarlo Pola92

L’Europe en formation nº 358 Hiver 2010 - Winter 2010

ment of ‘territories’ and for non-industrial sectors (e.g., agriculture and tourism), and to almost zero for the health sector.

Table 1: Shares of public expenditure of the 3 layers of Government in Italy, various years

1990 1995 2006

State 63 60 54 Regions 23 23 26

Provinces and Communes 14 17 20 Total 100 100 100

NB - Transfers to lower levels of government are included in their expenditure

Even more eloquent evidence of the defi cit of autonomy of subcentral gov- ernments in this still pre-federal Italy are the fi gures on own taxation and tax au- tonomy. According to OECD statistics (OECD 2009) with regard to the ratio be- tween revenues from own taxes of subcentral governments and total tax revenue, Italy is classifi ed the 21st out of 30 cases examined: the ratio being 13.5% as against 30% for Germany, up to 41% for Switzerland, and 44% for Canada. Th e percentages are, in Italy as in other regionally organized countries, lower than in those countries of Northern Europe such as Sweden and Denmark where regions are absent and yet the municipal and county level enjoys some 32-34% of tax autonomy. Th e same can be said of Japan.

Italy’s very low position in any international comparison of decentralized tax- ing power is confi rmed by other, more sophisticated elaborations.1

Th e main factors responsible for the changes in tax autonomy of the subcen- tral levels of government that did take place (in some cases) or did not in other cases (like Italy) have an economic as well as political nature. Only politics can ex- plain why in 1972 the central government decided to cancel all taxing autonomy of local authorities and exactly 20 years later, it decided to give them back even stronger competences and powers. Also, the European ‘stories’ of Belgium and Spain are quite instructive in this regard.

So, at this moment, Italy can be described as a devolutionary asymmetric federal system in the making (Palermo and Woelk 2007): ‘devolutionary’ because during the last 60 years, some powers have actually been transferred from the centre to the periphery, ‘asymmetric’ because there are two types of regions (the

1. Joint information from OECD and IMF and IEB (see bibliography) provides the following classifi cation concerning the degree of tax decentralization around the world in 2005. Tax decentralization = own taxes out of total taxes, where ‘own’ means ‘belonging to the a,b,c categories (i.e., those categories that include a high degree of manoeuvring in the tax base and/or tax rate by the subcentral level). Th is explains the peculiar absence of Germany from the reported list, since Germany’s subcentral tax fi nancing is anchored to tax sharing with no room for fl exibility. Canada 0.432 – Switzerland 0.407 – USA 0.202 – Spain 0.193 – Australia 0.177 – Belgium 0.153 – Denmark 0.114 – Sweden 0.103 – Italy 0.082

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Italy Out of the Crisis: More Centralized or Federated? 93

L’Europe en formation nº 358 Hiver 2010 - Winter 2010

‘Special’, dating back to 1948, and the ‘Ordinary’, created in 1970) and ‘federal in the making’ because the principles of a genuine fi scal federalism were laid down almost ten years ago in the Constitutional Act 3/2001 and are being imple- mented in this moment through Law 42/2009, which translates into operational norms the broad provisions of Act 3.

B. – ...and the 2016 ‘federal’ dream.

It might appear funny that even after Act 3, the terms ‘federal’ and ‘federalism’ do not offi cially appear in the Constitution; they appear only in Law 42/2009 of which I provide here a lightning summary. ‘Law 42’ treats separately the fi scal federalism related to the regional level and to the local (municipal/provincial) level. However, the ‘federalist’ features of the design show up mostly in the role of the regions, which have more tax autonomy than the local level. Th e regions are conceived as ‘coordinators’ of the whole decentralized public fi nance system and have more privileged functional and fi nancial connections to the State.

Th e architecture of tomorrow’s Italian fi scal federalism will be the following:

1. In the decentralized government system, there are basic (fondamentali) and non-basic functions and services that require diff erent fi nancial solutions.

2. Th e basic functions/services are to be fi nanced totally (on a standard cost/need basis, not on the actual cost basis), while non-basic func- tions/services are subject to the risk of ‘incomplete fi nancing’.

3. Th e basic functions/services are precisely identifi ed for regions (i.e., health, welfare, education, and part of local public transport) but are subject to future specifi c identifi cation for local governments.

4. Th ere are other expenditure items Tat do not enter into the previous rings (e.g., expenditures funded by European transfers).

5. Th ere will be a transition period during which, at the local level, the two sections of the budget will be valued at 80% and 20% respectively. As said, the fi nancial solutions will be diff erent for the basic and non basic sectors in each tier of government.

– At both the regional and the local level, basic (compulsory) ex- penditure will be guaranteed by revenues obtained through i) own taxation; ii) tax sharing (value added tax and income tax for regions, and unspecifi ed central and regional taxes at the local level); iii) sur- taxes and piggy-back taxation; iv) access to earmarked equalization

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funds (for regions: a central fund; for provinces and municipalities: regional ad hoc funds under central supervision). – At both levels of government, expenditure for non basic functions/ services will again be funded (incompletely for low-capacity units) via i) own taxation; ii) tax sharing (only income tax for regions and unspecifi ed taxes for local governments); iii) targeted equalization funds (in this case based on the ‘ fi scal capacity’ factor, not on the ‘need’ factor, so as not to guarantee a complete equalization in all cases).

At the end of the day, regions, provinces, municipalities, and metropolitan cities will rely on a complete funding (whether coming from their own taxpayers or not) for some 80% of their normal services (those subject to national standards) and on incomplete funding for the remaining 20% (no national standards). A cru- cial role here will be played by the specifi c equalization mechanisms envisaged by the Act. Th e (centrally managed) equalization fund for regions must be strictly vertical for the ‘compulsory’ part of the budget (i.e., for the expenditure associ- ated with basic functions), but will be de facto horizontal for the non-compulsory part because the richer regions will have to transfer the above-average yield of their regional tax (initially the IRAP, the business tax, to be abolished soon) to the common pool. Th e same applies to the two funds targeted to provinces and municipalities.

One of the most impressive consequences of such an architecture is that al- most the entire array of current transfers from central to regional governments to lower tiers will disappear from the budgets, their place being taken by own or shared taxation. It will be a further step forward for the decentralized fi nances of Italy, after the 1993 (local government) and 1998 (regional government) innova- tions of tax autonomy.

But the law de qua also has other undeniable merits:

1. First and above all, having refused to start the equalization procedure from actual expenditures, it anchors the whole system to standard costs and standardized expenditure.

2. It envisages rewards for the more effi cient units and sanctions for the ineffi cient ones.

3. For the fi rst time, it drags special regions into the equalization mecha- nisms studied for ordinary regions, thus paying political tribute to the growing dissatisfaction of modern Italy about the outdated privileges granted to special regions more than 60 years ago

4. It widens the room for cooperation between the regional and the local governments, something that in Italy does not yet apply everywhere,

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the main innovation being the possibility for regions to correct the equalization criteria established by the State for provinces and munici- palities.

5. It imitates the German constitutional amendment according to which the order of regions as to fi scal capacity cannot be modifi ed by the equalization corrections.

Effi ciency and equity will be called in by the envisaged solutions on the fi - nancing side. Th e region Lombardy, being the richest and most effi cient actor on the regional scene, will be the only region able to fi nance its basic compulsory expenditure through the nationally standardized income surtax. Th us, it will not need to participate in the VAT equalization fund, which, to a large extent is drained by the poor southern regions (e.g., Calabria, Campania, and Basilicata). Overall, there will be an implicit ‘pressing’ on the other ordinary regions (not only the southern ones, however) to adopt hard budget constraints and moderate their requests from the ‘common pool’. While the southern territories are going to be the main ‘losers’ at the regional level because of their historical distance from the ‘standard expenditure’, within the municipalities, the potential losers are equally distributed between North and South.

It is perhaps because of the lack of quantitative estimates and simulations during the debates in Parliament that Law 42/2009 could gain the approval from both the potential losers and the fi ve potential winners altogether. One way to gain consensus from the potential losers has been lengthening the phase of adap- tation up to fi ve years (plus the two intermediate years 2010 and 2011, required by lawmaking) so to avoid sudden and abrupt application of the standard costs and standard expenditure to budgets so far subject to soft budget constraints. Being still a ‘general framework’ law, a sort of grey area will have to be translated into a number of applied, practical solutions. For the moment, there is a silent yet cautious convergence from everybody on the adopted principles because the real game has not yet started. For example, for the moment, North and South Italy, and government and opposition, have agreed on the various ‘equalization’ principles as written in the law. But will the agreement survive when the general rules have to be translated into ‘real fi gures’, likely to hit the budgets of southern regions and 40% of local authorities? Again, what do the words ‘adequate equali- zation’ mean in the case of the local and regional expenditure for transports? And so on.

It must be noted, lastly, that Law 42/2009 has been welcomed with moderate enthusiasm by the leading northern regions (i.e., Lombardy, Veneto, and Pied- mont), which would have preferred a more radical approach to fi scal federalism, centred on horizontal (not vertical) and lower equalization schemes (based on fi scal

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capacity, not on needs) and leaving wider room for regional autonomy. Th e most disappointing feature of Law 42 for these regions is the very small space given to their long-standing request for establishing a ‘double speed’ (or ‘diff erenti- ated competences’) system of devolution ‘Spanish style.’ (Catalonia has always been a benchmark for Lombardy.) Since this is always possible according to Arti- cle 116.3 of the Constitution, it is almost certain that such a solution will be the next step forward for Italy’s fi scal federalism.2

Th ere is no doubt that the ‘fully federal’ Italy of 2016 will abandon the low- graded positions in decentralized taxing powers (as reported by IEB and quoted in the previous section) and face any future crisis with more diff erentiated ter- ritorial responses characterized by stronger and more independent subcentral fi - nances (see infra, conclusions).

2- Th e (potential) interference of the crisis with the road map to federalism and its (real) intrusion into Berlusconi’s budget consolidation policies: a delicate moment for Italy

Th e ‘crisis’ in Italy is crossing over two delicate moments in the nation’s life. Th e fi rst concerns the apparently serious attempt by Silvio Berlusconi’s govern- ment (through his Minister of Economy and Finance, Giulio Tremonti) to even- tually achieve a permanently balanced budget for the whole public sector. Th e second, politically much more relevant issue concerns the implementation of fi scal federalism as depicted in the previous section.

Th e crisis in Italy has certainly had, and is still having (August 2010), an im- pact on the nation’s (historically long-existing) fi nancial problems and their solu- tions, but the same cannot yet be said about the building of fi scal federalism. In this case, the infl uence of the crisis has so far been nil because the daily discus- sions in Parliament concerning its implementation laws have not been stopped. Th ere are, of course, also in Italy fears of the type that have been stressed in a very wise observation made by an OECD team of experts: ‘important reforms, also con- cerning relations among tiers of government, can be swept away by hard times such as those in which we are living’ (OECD 2010).

My opinion about how things are now going in Italy with respect to the re- lationship the fi nancial crisis and fi scal-federalism reform is the following. 1) In one sense, the crisis has arrived ‘too soon’ to cause troubles for a true ‘fi scal feder- alism’ in Italy despite the fact that some politicians have tried to block implemen- tation of Law 42 by arguing that available resources are too scarce for assessing the future equalization schemes envisaged by the reform. 2) Italy, perhaps due to

2. A more complete account of Law 42/2009 on Italy’s fi scal federalism ‘in the making’ is contained in (Pola 2010 b) included in the inaugural IEB’s world report on fi scal federalism. See bibliography.

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its status of being ‘not-yet-truly federal’ has so far anticipated (rather than reacted to) the crisis in a centralistic way. Th e central government tried to obtain – also through stopping the soft budget constraints policy pursued until 2008 – healthy budgets from subcentral governments before the storm arrived and during the fi rst phase of the storm. If the fi scal federalism framework had already been established in the country in 2008, the result would have been what Richard Bird (see bibli- ography) calls ‘golden rule federalism,’ given the still hard-to-die, all dominating ‘Rome centralism,’ to use a Northern League term.

It is hard to imagine how diff erently things could have gone in those months if Law 42/2009 had been implemented already. Th e issue is the fi rm decision of the central government to ‘obey’ the European Council’s request to bring Italian debt under the 3 per cent threshold by 2012 in order to avoid the EU’s ‘excess indebtness’ procedure. In order to reach such a target, starting from the current 5 per cent defi cit, the government of ‘centralistic’ pre-Law 42 Italy has planned a 24.9 billion euros ‘manoeuvre’ for the years 2011 and 2012. Th is means ‘cuts’ to both central and subcentral governments’ budgets, the latter being forcefully dis- tributed according the following table (see Table 2). Altogether, the subcentral governments’ budgets will have to suff er cuts equalling 13.3 billion euros, while the central government will pay for the diff erence between 13.3 and 24.9 billion. Th e main tool used by Rome to obtain such «forced chastity» by subcentral gov- ernments is the reduction of central transfers to them.

Table 2: Cuts to subcentral budgets for the years 2011-2012 (in billion euros) 2011 2012

State -4.0 -4.5 Regions -0.3 -0.5

Communes -1.5 -2.5 Overall - 5.8 - 7.5

Th is is exactly the hot heart of the political issues debated in the last months in Italy. Subcentral governments (including the pro-Berlusconi Lombardy region with 10 million inhabitants, 1/4th of Italy’s GNP, and headquarters in ‘New York style’ skyscrapers in Milan) do not accept being treated as ‘obedient servants’ without any room whatsoever for negotiating the distribution of the burdens among layers of government. Instead, they are left free only to select the budget items to be reviewed (social expenditures being the fi rst victim, as threatened by many of them).

So, we can conclude that the crisis has caught the actors of Italy’s scenario in the middle of a domestic quarrel where the ‘old father’ state was fi rst (2008) ask- ing the least disciplined children (regions with heavy defi cits due to soft budget constraints in health expenditures) and then (2009-2010) asking the whole family

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to share the common burden of re-balancing the nation’s public budget according to the European rules.

Some partial compensation for such centralistic behaviour has meanwhile been sorted out through the concession, approved in July 2010, of a wider set of fi scal powers to communes and provinces in the new ‘federalistic’ framework of Law 42. Despite that, the crisis touched Italy while it still was one traditional ‘compact’ country, characterized by multiple government levels endowed with ‘centrally regulated’ autonomous and non-autonomous fi nancing.

3- Back to the crisis and to its impact on central and subcentral fi nances (with random hints at Italy’s position)

Th e standard approach to the analysis of the impact of the crisis on the budg- ets of subcentral governments is to distinguish between a fi nancial crisis – which is assumed to impact the cost of fi nancing, the scarcity of available liquidity, and the value of assets on one side – and an economic crisis, supposed to infl uence revenues and expenditures of local budgets on the other side. Considering both types of crisis, the following potential negative features of their impact on local authorities can be identifi ed (CEMR):

– negative trends in investments and tax revenues – increased current expenditure on welfare and social services – scarcity of available credit and/or cash liquidity plus high cost of borrow-

ing – cuts in local authorities’ staff ; and – reduced growth.

Of course, the type of political and fi nancial relationships among levels of government in any given situation will infl uence each of the above-listed impacts. According to the most important and complete international report dealing with the fi nancial crisis and relationships among levels of government available at the moment (see OECD 2009), in the days preceding the crisis:

1. the defi cits incurred by subcentral governments were lower than those of central governments, and also less cyclical

2. the volatility of central and subcentral revenues was very similar, while subcentral government spending was more stable

3. diff erences between central and subcentral fi scal outcomes can be partly explained by fi scal rules and by intergovernmental grants.

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Th e fi rst two features apply to Italy as well, but nothing is said by this source about Italy’s position for the third result.

Th e report says further that, as a consequence of the crisis, revenues of sub- central governments are expected to fall, while their spending is expected to rise (the so-called ‘scissors eff ect’). Among the reported national cases of tax-revenue projections for diff erent levels of government for 2009-2011, Italy’s changes ap- pear very modest (0% on average at the central level and -0.9% at the local level; however, for more recent and accurate data on accrued tax revenues, see infra). Given such modest changes in revenues and the reduced space for manoeuvring expenditures in general (see infra, opinion expressed by the same experts) due to the small share of social protection in Italy’s subnational expenditure, the ‘scissors eff ect’ should not be strong in Italy.

Coming to the ‘stimulus’ argument, OECD’s report rightly expresses the fol- lowing considerations:

most national stimulus plans have a tax component, whereby central governments aim to support business and private consumption by lowering taxes, and most feature an increase in public investment ... to support employment and long-term productivity growth . ... Given subcentral governments’ weight in the economy, their decisions will have a great impact on the chances of success of any recovery plan. If subcentral govern- ments reduce their spending in order to balance their budgets, this would necessarily hamper central governments’ eff orts to stimulate the economy.’

According to the reported statistics, Italy’s position as to its shares of sub- central revenues in total revenues and of subcentral spending in total spending is exactly in the middle of the crossing; at the same time, Italy is among the top six positions for share of local investment expenditure.

Th e OECD divided its sample of 19 countries into three types of reactions to the crisis: (1) procyclical reactions (raising tax rates, etc..); (2) automatic stabi- lizers (no explicit policy measure); and (3) countercyclical reactions (decreasing tax rates, etc). Th e OECD experts mention the Italian case only to say ‘in Italy, subcentral governments had little room for manoeuvre to increase expenditure due to the Internal Stability Pact, but have redirected resources towards support measures,’ a statement that goes at least partially counter to the opinion of other commenta- tors, according to whom Italy has faced the crisis mainly through its automatic stabilizers (see following paragraphs).

Quite suitable to the Italian situation are the considerations made by the OECD about possible long-term impacts of the crisis and future challenges:

i. Th e fi rst refl ection concerns consolidation of the budgets, especially those of subcentral governments, which might be hit by reductions of discre- tionary transfers from the central government. Th is is exactly what is hap-

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pening in Italy, although it is not offi cially caused by the crisis. Th e cuts in transfers to regions and local authorities (see above) were the hot issue throughout 2010.

ii. Th e second consideration – on which many Italian politicians opposing the fi scal-federalism reform would agree – could concern Italy even more, as it states that ‘in most cases, crises tend to delay or cancel reforms, as reforms tend to be expensive ... and increase uncertainty.’

iii. Also potentially referring to Italy: ‘the crisis seems to have sparked a broad refl ection on the need to reform relations among levels of government in order to increase effi ciency (for example, by reforming territorial organization . . . .)’ In this regard, it must be recalled that, according to the Italian politi- cal majority, the fi scal-federalism reform is supposed to decrease costs and increase effi ciency of the public sector.

iv. Finally, ‘the crisis is creating a new balance of power between central and subcentral governments. Th e result could be either a greater role for sub- central governments (like in Canada, where they are actors in implementing recovery measures) or a shift of the balance of power towards the central government (like in the United States, where the states have had to rely on federal funds…).’ Th e second outcome is what Bird has described as a quite possible consequence of the crisis, a consequence possible in Italy as well.

4. – Focusing on Italy: how did happened, what damages the country suf- fered, etc.

4.1 Th e economy

It has been said that the way the crisis came to Italy was essentially through the ‘real’ dimension. How that happened is not of immediate interest to this audience. Italy is part of Europe, and although Europe’s economy held up a lit- tle longer than did that of the United States, when the crash came, the damage was even larger. In the euro area, industrial production fell by 21% between April 2008 and April 2009 (the worst month of the crisis); in the United States, the fall was only 14% during the same period3; and Italy suff ered an even greater blow, minus 25%. Recovery has since been very slow and even slower in the euro area than in the United States. In comparison with the euro area, Italy’s perform- ance here was slightly less dramatic.

3. Why Europe acted diff erently from the United States is a question that can be answered by taking into ac- count the two divergent patterns of growth of the US area and of the euro area. In 2009, exports and imports of the euro area declined by 18% and 22% relative to those of 2008 (i.e., almost 5 or 6 times more than the parallel decline in GDP).

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Why Europe acted diff erently from the US is a question that can be answered by taking into account the two divergent patterns of growth of the US area and of the euro area. In 2009 exports and imports of the euro area declined by 18 and 22 per cent, relatively to those of 2008, i.e. almost 5 or 6 times more than the parallel decline in GDP.

Table 3: External trade growth (change 2009 over 2008 in %)

Currency areas Exports Imports EU 27 -16 -23

Euro area -18 -22 Germany -20 -18

Spain -20 -29 France -18 -19 Italy -22 -23 U.K -21 -22

Source: Rovelli (see bibliography)

Th is was also a much larger fall relative to the other advanced economies and to the emerging and developing countries. Italy’s exports and imports (including those with the rest of the EU) declined even more, by 22% and 23%, respectively (see Table). Th is was presumably to be expected, given the weak positioning of Italy’s trade and its high sensitivity to the depreciation of the dollar. Hence, it ap- pears that the euro-area recession was largely due to the fall in world (especially US) demand for euro-area exports, which quickly fed into the demand for capital goods. (Th e decline in gross fi xed capital formation in the euro area was probably more than 11% in 2009.)

4.2 Th e blows of the crisis on central-budget revenues

After having got rid of Italy’s subtleties in public budgeting and accounting methods, one can say that the impact of the crisis on the central state’s tax rev- enues had surely started already in 2008, and that it reached its peak in 2009, between February (decrease of 6.6% of all tax revenues) and March (-4.6%). In June 2009, the global decrease was 1.9%, as an average of the following separate items:

– wealth and income taxes +1.7% – business taxes -10.2% – production, consumption, and monopolies taxes + 6.0% – games etc. taxes +0.5%.

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Th e outstanding fall of the broadly denominated ‘business taxes’ (-10.2%) is the most convincing evidence of the freeze that had caught the Italian economy (as it had caught the European economy, etc.) just across the two years 2008 and 2009. No evidence of this result could be more convincing than the ‘cold’ way Italy’s Ministry of Economy and Finance comments on these data in its offi cial economic bulletin (see MEF 2010a).

What happened in the following period, July 2009 to June 2010? Again, the information suff ers from the technicalities and complications of Italy’s account- ing systems, but the most ‘neutral’ fi gures speak of an overall decrease of the central state’s tax revenues of 2.8%, equivalent to -5.2 mld. euros.

Th is time, however, the distribution of the burden is diff erent from that of 2009:

– wealth and income taxes -5.0% – business taxes +2.1% – production, consumption, and monopolies taxes -6.0% – games etc. taxes -2.1%.

Similar (but not identical) results for both years were produced by the Bank of Italy, which, however, adopts the cash criterion instead of the accrual criterion.

Th e increasing trend of the yield of business taxation is positively noted by the experts of the Ministry of Economy and Finance who stress the favourable change in the business cycle despite the increased burden of oil prices, which are responsible for the increase of the VAT yield on imports. But some improvement of the yield is to be caught also inside the negative overall outcome of the wealth and income taxes. Much stronger increases of the tax yields are recorded in other European countries, like France, Spain, Th e United Kingdom, and Portugal. Th is is due to the cancellation of the various tax allowances and tax benefi ts adopted in 2009 in order to motivate production and consumption.

In the other battlefi eld of the war, the public debt, July 2010 marked a modest but well appreciated (by the Italian government and also by the European Central Bank) progress, with the decrease from 1,827 to 1,822 billion euros. Th e increas- ing trend had started in January 2009 and reached its peak in June 2010.

All’s well what ends well? It should be kept in mind that Italy’s public debt is still the highest in Europe, after the Greek one, if compared with GNP.

4.3 Th e blows on subcentral tax revenues

Unfortunately, little information exists at the moment on the damages suff ered by Italy’s subcentral budgets because of the crisis. Offi cial statistics on public sec- tor matters follow events with a long time lag. Th e few available data come from

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an inquiry conducted by a private research team (Dexia-Crediop) replicated in both 2009 and 2010. Th ese data shed some light on, unfortunately, only the tax revenue side (and not entirely). On the expenditure side, only the interest-rates item is examined. Table 4 summarizes the results of the last two available yearly changes (2009/2008 and 2010/2009, fi rst or second semesters in both cases) of the cycle concerning Italy’s subcentral budgets in relation to the economic crisis.

It can be seen that the evolution from the fi rst semester 2008 to the fi rst semester 2010 seems to have brought some mixed blows on the budgets of the regional governments (but the weak recovery of IRAP’s yield in 2010 does not compensate for the severe loss of 2009) and an overall improvement of the situ- ation for the municipal budgets (which depend, however, much more on the tax on immovables, not considered in the table, than on the income tax surcharge that is unfortunately the only item included in the table). Provinces suff ered the most severe losses in both years.

Table 4: Th e impact of economic crisis on the budgets of subcentral governments

Regions Provinces Communes 2009/08 2010/09 2009/08 2010/09 2009/08 2010/09

Revenues area (Taxes and

excise)

IRAP -4.6% +0.6%

Income tax surcharge

+0.5% -1.3% +12.1% -3.0%

Petrol excise - 6.2% -2.2% Car card +5.1% n.a.

Mobility Tax - 12.5% -0.7% Electricity surcharge

-8.6% -12.3%

Expenditures area (Interest rates etc.) Interest rates: Euribor 6 m.: from 5,145% in July 2008 to 0,996 in Jan.2010 RS 12 y.: from 5,072% July 2008 to 3,765% in January 2010

Source: Dexia Crediop, La congiuntura della fi nanza degli Enti Territoriali, 2009 and 2010.

Coming now to the debt issue, it can be seen from the table that in 2008, for the fi rst time in Italy, the local debt/GNP ratio had decreased, after the uninter- rupted increase from 2003 to 2007, but that already in 2009 this progress had been cancelled and a further worsening of the situation occurred in the subsequent months. Luckily, the size of the tumour this time is much less invasive than the one related to the central government! In fact, it is 16 times smaller, thanks to a generalized bail-out operation of the late 1970s that cancelled all existing debts of the local level.

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Table 5: Italian local governments’ debt (in % of GDP)

2003 2004 2005 2006 2007 2008 2009 2010* % Debt/GNP

ratio 5.1 5.3 6.1 7.1 7.2 6.8 7.1 7.3

Debt in billions euro

70,8 76.6 90.7 105.6 110.5 106.7 110.9 113.1

(*) May - Source: Dexia-Crediop and Bank of Italy.

5 - Italy (and Europe) coming out of the last curve: more centralized or federated?

Th e reaction to the crisis has been quite fast everywhere in Europe and out- side. Generally speaking, it has involved fi scal stimulus, specifi c measures to sus- tain employment and specifi c measures to deal with fi nancial markets and inter- mediaries. Looking at the fi scal stimulus from an aggregate view, we have been informed that most countries immediately and somehow ‘automatically’ reacted to the real contraction with a fi scal expansion that amounted in 2008 to 1.2% of GDP for the euro area and also for Italy. In the two subsequent years, the expan- sion reached 5.6% and 6.0 % in the euro area, and something more than 4% in Italy.

Table 6: General government fi scal balance and debt (in % of GDP)

2007 2008 2009 2010 2008 2009 2010 2007 2010 2014

Actual balance Balance change

from 2007 Gross Debt

Euro area -0,6 -1,8 -6,2 -6,6 -1,2 -5,6 -6,0 65,7 86,3 95,6 Germany -0,5 -0,1 -4,2 -4,6 0,4 -3,7 -4,1 63,4 84,5 89,3

Spain 2,2 -3,8 -12,3 -12,5 -6,0 -14,5 -14,7 36,1 69,6

France -2,7 -3,4 -7,1 -7,1 -0,7 -4,3 -4,4 63,8 82,6 92,6 Italy -1,5 -2,7 -5,6 -5,6 -1,2 -4,1 -4,1 103,5 120,1 128,5 UK -2,6 -5,1 -11,6 -13,2 -2,5 -9,0 -10,6 44,1 81,7 98,3 USA -2,8 -5,9 -12,5 -10,0 -3,1 -9,7 -7,2 61,9 93,6 108,2 Japan -2,5 -5,8 -10,5 -10,2 -3,3 -8,0 -7,7 187,7 227,0 245,6

Source: IMF, as reported in Rovelli (2010)

According to the IMF, in the advanced G20 economies, discretionary meas- ures contributed to less than one-third of the stimulus of 2009, while in Germany discretionary measures amounted to more than 40% of the stimulus and in Italy the discretionary stimulus was extremely light. In fact, if one looks at the main policy measures adopted by the Italian government in the period June 2008–Sep-

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tember 2009, those that could be considered somehow tied to, or suggested by, the hard economic phase were:

• on the expenditure (including tax expenditure) side: – introduction of a social card to subsidize the basic consumption of low-

income earners – various interventions for investment and infrastructures, among which are

tax exemptions – shock absorbers aimed at protecting jobless people and, above all – abolition of the local property tax (ICI) for owner-occupied houses (3.5

billion euros the weight on the communal budgets, totally replaced by central transfers).

• and on the revenue side: – a ‘fi scal shield’ meant to induce evaders/exporters to repatriate exported

funds with a generous tax rate of 5%, and is part of a wider strategy to get tough on tax evaders and/or illegal capital exporters.

At the end of the period, the fi nancial law for 2010 was approved, including many of the above measures, and eventually explicitated the two strategic param- eters for 2009 and 2010: net indebtness of the public sector: 5.3 and 5.0 per cent, and GDP: -4.8 and +0.7 per cent.

Why was Italy reluctant to adopt more massive measures? Because everybody knew that the room for fi scal manoeuvre was quite limited. For some years, the Ital- ian governments (starting with the left-wing one led by Professor Romano Prodi) were committed to containing the growth of public expenditure. Th e Berlusconi gov- ernment confi rmed the decision not to adopt an expansionary stance even once the crisis became apparent, choosing instead to leave the automatic stabilizers free to operate. Th is limited the aggregate dimension of the fi scal stimulus, and created some tension both within the government coalition and between government and opposition. Political favour was in fact equally distributed for both types of possible discretionary interventions (and related costs for public fi nances): (1) those favouring the banking and fi nancing system and (2) those favouring in- come for families and fi rms.

Inside the country, a ‘normal’ process of trying to tackle the crisis (though an additional hot issue was the retirement age of public employees, for example) was taking place. As soon as the crisis developed, the European Commission drafted a plan for European economic recovery, the main purpose of which was to recom- mend to member states an immediate budgetary expansion of 170 billion euros,

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adding up to an overall stimulus of about 200 billion euros, or 1.5 % of the EU’s GDP.

Although no formal process of coordination took place, most countries, Italy included, presented their own, independently adopted fi scal program. In all of these cases, these measures imply a breach of the 3 per cent threshold of budget balance to be maintained for a few years. Hence, the European Commission was forced in the following months to begin for each country an ‘excessive defi cit procedure,’ fi nding that in most cases – Italy included – both the defi cit and the debt criteria were not fulfi lled.

Hence, in the literature, there is a widely agreed opinion that Italy, being aware of the modest size of its economy in the general Western framework and also of its location between the anvil of the debt and the hammer of the crisis, its action against the crisis was, and still is, intentionally modest, with the twin ex- planations: (1) because of the nation’s high outstanding debt and (2) in order for the government to be coherent with the proclaimed intention to consolidate its fi nances.

Th e above-defi ned, modest aggregate dimension of Italy’s stimulus was essen- tially obtained by letting the automatic stabilizers (and related costs) operate. Auto- matic stabilizers can of course concern both revenues (tax yield depends on the elasticity of tax bases with respect to GNP) and expenditure (this section of the eff ect is not so strong in Italy, given the scarce weight of social-buff er stocks). Initially, it had been calculated by the IMF that simply by letting the stabilizers work, Italy’s debt/GNP ratio – the highest in the EU – would have increased by 17 percentage points in 2010 and by 25% by 2014, reaching almost 130%. But the last estimates appear less pessimistic. According to DPEF (the Italian offi cial global planning document) 2010-2013, the debt/GNP ratio will, in 2011, only reach 118% (i.e., less than IMF estimates but, in any case, a much higher value than it was before Italy joined the EU).

More generally, Italy’s weak action can be considered the consequence of the centre-right government’s always declared intention to reform the system until it stops generating structural defi cits. Th e reforms concern especially public admin- istration, education, budget procedures (with a brand-new three-year planning process) and, last but not least, fi scal federalism: back to square one! Th e uncon- fessed hope has been (and still is) that of maximizing the economic eff ects of the listed reforms and delegating to Europe other more powerful actions. Europe had, in the meantime, adopted the EERP for 2009-2010, totalling +1.8% of the global 27 GNP: again, too weak a strategy if compared to the United States, but to make it stronger would have required the issuance of European bonds, an operation diffi cult to implement.

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If Italy had chosen to conduct a more aggressive fi scal expansion, it would now be hitting the headlines at a faster pace than the news from Greece or Spain, and only thanks to the conservativeness of the government in this respect it is not . ... Of course, a standard response to these objections is that debt will be paid back through faster growth, but Italy has a proven record of no correlation between fi scal profl igacy and faster growth (Rovelli, 48).

Yet, the above overpessimistic citation confi rms that what is needed in Italy is a growth strategy as the only way to withstand the future burdens. Th e IMF con- siders Italy a ‘worrying case’ on the long-run fi scal sustainability side (IMF 2009). Alas, the country, although well aware of that, has not yet apparently chosen any defi ned path to growth. Th e delay in answering the need for growth is explained by its severe political implications. Growth, in fact, means new rules for the re- tirement age of the public and private sector, new rules for labour relations in the secondary and tertiary sectors, new rules for immigration, new rules for public work, new equity/effi ciency choices in taxation, new strategies for innovation and science fostering, and so on.

A fundamental role in Italy’s cautious anti-crisis behaviour has been (and is still, year after year) played by the Internal Stability Pact, which has become the nightmare of subcentral governments at the communal and provincial levels (re- gions have their own agreements with Rome), insofar as it blocks expenditure fl ows of all sorts, after the established threshold, not only for the ‘vicious’ but also for the ‘virtuous’ administrations. Especially damaging are the rules when they are applied to investment expenditure, which is the characterizing feature of the most effi cient (especially northern) communes and provinces. To off set this nega- tive side of ISP, there is now a widespread movement toward the ‘regionalization’ of the ISP (local authorities of a region merge their residual investment expendi- ture spaces in order to expand them to the maximum allowed by the defi cit ceil- ing calculated for the territory, under the region’s guarantee, something like the German framework).

Th is apparently secondary technical topic off ers the opportunity to try to an- swer the question raised by the title, post-crisis Italy: more centralized or feder- ated? Th e ‘regionalization’ of the ISP is, in my opinion, the most eloquent dem- onstration that there is in Italy, especially in the North, an environment prepared for cooperative (but also competitive) federalism that would have reacted in a more diff erentiated and perhaps more eff ective way to the blows of the crisis than has been possible under the highly centralized guidelines that prevailed, taking advantage of the fact that the ‘federal solution’ is still in its preparatory stage, due to last until 2016! At the end of the day, no doubt, the crisis will hit on the ‘fi scal feder- alism fabric’ of Italy now in the making because Italy has (perhaps overly) stressed the ‘national interest clause’ (a clause present in all fully fl edged federations, e.g., see US Constitution) in a country dominated by territorial, economic, and social

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Giancarlo Pola108

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diff erences that no Italian would like to see widened by external events such as the global crisis.

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Abstract 1 - A brief summary of Italian ‘fi scal federalism’ (current and in the making). 2- The (potential) in-

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Italy Out of the Crisis: More Centralized or Federated? 109

L’Europe en formation nº 358 Hiver 2010 - Winter 2010

terference of the crisis with the road map to federalism and its (real) intrusion into Berlusconi’s budget consolidation policies, in a delicate moment for Italy. 3- Back to the crisis and to its impact on central and subcentral fi nances (with some hints at Italy’s position) 4- Focusing on Italy: how it happened and what damages the country suffered, etc. 5-Italy (and Europe) coming out of the last curve: more centralized or federated?

Résumé 1 – Une brève synthèse du « fédéralisme fi scal » italien (actuel et en cours de réalisation). 2 – Les inter-

férences (potentielles) de la crise avec la feuille de route du fédéralisme, et son intrusion (effective) dans les politiques de consolidation budgétaire de Berlusconi, dans un moment diffi cile pour l’Italie. 3 – De la crise et de son impact sur les fi nances au niveau central et décentralisé (avec quelques éléments de com- préhension de la position italienne). 4 – À propos de l’Italie : ce qui s’est passé et les dommages subis par le pays, etc. 5 – L’Italie (et l’Europe) sortant de la crise : plus centralisée ou fédéralisée ?

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