Mario Draghi’s second ‘whatever it takes’

PARIS — To be the prime minister of Italy is to hold one of the world’s worst jobs. To paraphrase the English philosopher Thomas Hobbes, life in this post is usually nasty, brutish and short. Very short, in fact: Since Angela Merkel became chancellor of Germany in 2005, she has had eight different Italian counterparts.

Unsurprisingly, Italian leaders achieve little under such conditions. By the time the COVID-19 crisis hit, German GDP per capita had grown by 20 per cent since Merkel took office, while Italy’s had declined by 4 per cent during the same period. 

Although it is unclear how long current Prime Minister Mario Draghi, a former president of the European Central Bank(ECB), will remain in office, the odds are that he will be true to tradition. Speculation in Rome is that he might run for president — a position with influence, but not power — in 2022 or 2023. But, as Draghi’s ambitious economic recovery plan makes clear, the expected shortness of his tenure is not preventing him from being bold. 

From 2021 to 2026, Italy is set to receive 69 billion euros ($82 billion), or close to 4 per cent of GDP, in grants from the European Union to finance green, digital and infrastructure investments. This alone is significantly more, as a share of GDP, than the 2.6 per cent European countries got under the post-World War II US Marshall Plan. But Draghi has decided to double down by bundling this grant with another 13 billion euros of EU subsidies and 191.5 billion euros in loans, also mostly from the EU, so that the whole program amounts to a whopping 248 billion euros. Some 70 per cent of it will be allocated to new projects. Spain, by contrast, also will receive about 69 billion euros in EU grants, but does not plan to spend a penny more.

Draghi’s choice may look strange at first sight. EU loans are only marginally cheaper than Italy’s own cost of borrowing, so why should the government pre-commit to drawing on them so massively? The answer is that he wants Italy to change tack, and has thus announced a shock-and-awe strategy that aims to end his country’s two-decades-long stagnation.

By acting so forcefully, Draghi hopes to shift expectations and thereby the behaviour of employers, workers, and consumers. In 2012, he famously changed the fate of the eurozone by saying that the ECB would do “whatever it takes” to preserve the euro. The massive multiyear plan amounts to another “whatever it takes”. It is intended to signal that the government is determined to ensure a sustained recovery and put the economy on a lasting growth trajectory.

This is the exact opposite of the traditionally cautious fiscal approach that prevails in the EU, where governments have repeatedly acted as if the bigger risk was to do too much and jeopardise macroeconomic stability. Draghi’s strategy is much closer to that of US President Joe Biden, who also clearly considers that the greater risk is to do too little. Draghi is certainly not the first European leader to think in this way in recent times, but he is the first to act accordingly. It probably took his credibility as a central banker to convince the EU of the merit of his approach.

Yet, the conditions for success are demanding. The first is that the Italian government spends the money efficiently rather than in a politically expedient way. The problem with EU grants is that they tend to be allocated in such a way that every ministry gets its little bit. Draghi seems to have avoided this trap by setting just a few priorities and handing oversight of the plan’s implementation to the Treasury. Where he is taking a risk is by allocating 40 per cent of the total package to Italy’s south, a backward and clientelist region where public investments have regularly disappointed.

The second condition is that investment be buttressed by complementary reforms. The EU has been adamant that member states benefiting from grants must embrace difficult measures and implement the European Commission’s “country-specific recommendations”. Negotiations have been long, detailed, and occasionally tense. The Commission has been getting deep into the weeds, asking governments to amend details of legislation. But Draghi has successfully stuck to a handful of objectives such as reforming the judiciary, strengthening competition, and modernising public administration. Right or wrong, the reforms are his choice.

The third crucial factor is that financial markets buy into the package. Italy’s public debt, as a share of GDP, is the second highest in the EU, after Greece and Draghi’s plan will only add to it. His bet is that investors prefer to lend more to a government that invests to raise a country’s potential growth than to remain stuck with the debt of a fiscally cautious one that presides over a moribund economy.

Data suggest that Draghi is right. Italy’s debt predicament stems not from fiscal laxity but from a lack of growth. And markets so far seem convinced; the interest spread between ten-year Italian and German bonds has narrowed to about 100 basis points from 150 before the COVID-19 pandemic hit.

Only time will tell if Draghi’s strategy delivers. Italy’s dismal recent economic record is only partly due to a lack of momentum. At a deeper level, it is rooted in adverse demographic trends, poor educational attainment, and an enduring duality between a cluster of innovative, world-class exporters and myriad second-rate, low-productivity small firms. Draghi’s plan will address some, but not all, of these failings. The big question is whether it will be sufficient to raise productivity.

Ultimately, however, Draghi’s main weakness is political. He is the only reason why an unwieldy governing coalition has so far not damaged the recovery plan through political infighting. But the coalition could unravel at any time.

If Draghi succeeds, he will change the European conversation, so that neighbourly solidarity and fiscal risk-taking are seen as good investments. If he fails, the EU’s recovery plan will be remembered as a waste of money, and fiscal conservatism will regain the upper hand. Italy’s latest prime minister is playing for high stakes indeed.

Jean Pisani-Ferry, a senior fellow at Brussels-based think tank Bruegel and a senior non-resident fellow at the Peterson Institute for International Economics, holds the Tommaso Padoa-Schioppa chair at the European University Institute. Copyright: Project Syndicate, 2021. 

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